American Public Education Inc (APEI) 2014 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q2 2014 American Public Education Inc. earnings conference call.

My name is Whitley and I'll be your operator for today.

At this time, all participants are in listen-only mode. Later we will conduct a question-and-answer session. (Operator Instructions).

As a reminder, this call is being recorded for replay purposes.

I would now like to turn the conference over to your host for today, Mr. Chris Symanoskie, Vice President of Investor Relations. Please proceed, sir.

Thank you, operator. Good evening and welcome to American Public Education's conference call to discuss financial and operating results for the second quarter of 2014. Presentation materials for today's call are available in the webcast section of our investor relations website, and are included as an exhibit to our current report on Form 8-K filed earlier today.

Please note that statements made in this conference call regarding American Public Education or its subsidiaries that are not historical facts are forward-looking statements based on current expectations, assumptions, estimates, and projections about American Public Education and the industry. These forward-looking statements are subject to risks and uncertainties that could cause actual future events or results to differ materially from such statements.

Forward-looking statements can be identified by words such as "anticipate," "believe," "seek," "could," "estimate," "expect," "intend," "may," "should," "will," and "would." These forward-looking statements include, without limitation, statements regarding expected growth, expected registration and enrollments, expected revenues, expected earnings, and plans with respect to recent and future investments and partnerships.

Actual results could differ materially from those expressed or implied by these forward-looking statements as a result of various risk factors, including the risk factors described in the Risk Factors section, and elsewhere, in the Company's Annual Report on Form 10-K, filed with the SEC, and the Company's other SEC filings.

The Company undertakes no obligation to update publicly any forward-looking statements for any reason, even if new information becomes available or other events occur in the future.

This evening, it's my pleasure to introduce Dr. Wallace Boston, our President and CEO, and Rick Sunderland, our Executive Vice President and CFO. Also available for questions today is Harry Wilkins, Executive Vice President, Chief Development Officer, and CEO of Hondros College of Nursing.

Now at this time I'll turn the call over to Dr. Boston.

Thank you, Chris. Good evening, everyone.

I'll begin, using slide number three, our call with an overview of our second quarter results, and provide a brief update on the progress we are making with respect to our strategic goals. Then Rick Sunderland, our CFO, will discuss our financial results, and provide perspective on our outlook for the third quarter of 2014.

At American Public University System, overall net course registrations declined 3% in the second quarter of 2014 compared to the prior year period. Net course registrations by students using Department of Defense or DoD voluntary education Tuition Assistance programs, also called TA programs, declined 1% year over year. While the prior year comparison was adversely impacted by a temporary suspension of TA programs occurring in April of 2013, the results of the most recent second quarter represent a sequential improvement in the rate of decline, compared to a more significant 10% decline in net course registrations by students using TA in the first quarter of 2014.

We believe that American Military University, or AMU, continued to enjoy a strong leadership position among the military community in 2013, a time of significant administrative and programmatic change in the military's voluntary education programs.

Despite these changes, the fundamental needs for higher education in the military remain. The military continues to use education as an important component of its recruitment efforts. Educational attainment is required for advancement within the military, and a trained and highly skilled fighting force is still a national security priority.

Moreover, we've been told by officials within the DoD that funding of TA programs is expected to remain at current levels through 2015. However, Tuition Assistance can be changed at any time, as we saw last year.

That said, future changes to the military's voluntary education program may continue to create volatility in the number of net course registrations by students using TA at AMU.

Among other changes to the DoD's voluntary education program is a requirement of an institution to accept the terms of a revised memorandum of understanding or MOU by September 5th of 2014. We have signed the MOU and are awaiting the return of the countersigned agreement.

The 2014 MOU contains many requirements and limitations that were not contained in previous MOUs. Moreover, we cannot predict the impact that such changes may have on the administration of TA programs, nor can we anticipate how service members will interact with higher education institutions under the new rules.

We are pleased that AMU continues to be the institution of higher learning most often selected by active duty military students, and among the top schools serving veterans. According to DoD and our estimates, AMU maintained approximately a 17% market share of TA from 2012 to 2013, while the overall number of active duty military students, excluding Guard and Reserve, using the benefit declined approximately 7%, year over year.

In addition, Army Times recently ranked AMU as the top school serving active duty military, and ranked AMU the number eight school in the country serving veterans in 2013.

Net course registrations by students using veterans benefits increased plus 6% year over year in the second quarter of 2014, further illustrating our continued selection by military affiliated communities.

At the same time, net course registrations by students using cash and Federal Student Aid declined 10% and 8%, year over year, respectively. The decline in net course registrations by students using FSA is believed to be attributable to several factors, including a difficult prior-year comparison, having previously achieved 13% growth in the second quarter of 2013, the measures we have taken to improve our quality mix of students, and the impact of a challenging environment on higher education, overall.

Net course registrations by new students declined 7% year over year in the second quarter of 2014. Net course registrations by new military students using Tuition Assistance, and net course registrations by new students using VA benefits were each approximately flat, year over year, while net course registrations by new students using FSA and cash or other sources, declined by 12% and 5%, year over year, respectively.

We are intensely focused on overcoming the various challenges with regards to academic preparedness and the volatility we are experiencing in enrollment of students using FSA. As such, we advanced our strategy to build and expand strategic relationships as outreach to prospective students with greater college preparedness.

In the second quarter of 2014, we signed new partnerships with Save-Mart, a West Coast grocery store chain with 226 locations; Keurig-Green Mountain Coffee, an innovative premium coffee company with more than 6,000 employees; and the Education Institute of the American Hotel and Lodging Association, a national association representing all segments of the US lodging industry, as well as several hospitals and healthcare networks.

We also conducted the renewal or expansion of several existing strategic partnerships during the second quarter, including with our public safety partners and corporations. Moreover, our partnerships with prominent corporations are exciting, not only because they represent revered brands, but also because they are part of a broader trend of corporate social responsibility, and increased investment in lifelong learning as a benefit for workers.

I'm also pleased to report that our new subsidiary, Hondros College of Nursing, has continued to advance its plan to serve the nursing and healthcare community in Ohio. The management team at Hondros College of Nursing has placed a greater focus on developing strategic partnership agreements, including an emphasis on serving healthcare networks, long-term care facilities, and military communities. Over the last six months, Hondros signed 13 new relationships, with several new relationships in the pipeline, and hired a manager who is dedicated to developing such relationships.

In addition, the institution has refined its message with new creative and awareness campaigns that focus more on social media referrals and relationship marketing.

Hondros College of Nursing continues to operate under the terms of the Temporary Provisional Program Participation agreement from the US Department of Education. We are awaiting notice of the Department's action on the change of ownership application. We hope to receive notice of this action from the Department in the near future.

Meanwhile, Hondros College of Nursing recently completed a move of its Cleveland campus to a larger, more visible, and accessible nearby facility. In addition, the Cleveland and Columbus campuses recently opened registration for new evening and weekend classes that will start in October.

I'm proud of the team at Hondros College of Nursing, and I think they're setting the stage for a solid future.

Moving on to slide number four, second quarter of 2014 highlights, AP US continues to focus on and address the important challenges related to student recruitment, persistence, and retention. As a result, we've seen a reduction in our course failure and withdrawal rate since the start of this year.

We are pleased with the measurable improvements, but we still have more work to do as we continue to evaluate, test, and implement programs and strategies for increasing retention and overall student success. This is an all-hands effort spanning nearly every department.

Our hope is that the many initiatives we have put in place are starting to have a positive and more lasting impact on our overall quality of mix of students. Moreover, we incur certain costs to enroll new students and derive great value from student success. Efforts to identify prospective students who possess greater college preparedness and academic intent, combined with our efforts to increase classroom engagement, student support and intervention, are all worthwhile endeavors that improve the college experience and student success, as well as reduce the high cost of failure and withdrawal.

We believe these efforts are important, despite the fact that may, in part, be adversely impacting the enrollment growth of students. We believe our future is inextricably linked to the quality of our academic programs, instruction delivery, and student services we provide.

In the second quarter of 2014, we implemented a number of initiatives focused on improving student success and persistence in our general education and high enrollment courses, and we plan to launch several new projects in the coming months. We have an expanded team of academic directors and faculty observing and analyzing classroom engagement in the first two weeks of class to identify areas where students need immediate attention.

Our goal for these initiatives is to attain a meaningful improvement in student, as measured by grades, withdrawals, and incompletes. We have seen measurable progress towards this goal since the beginning of the year, and we plan to continue with these and other initiatives aimed at increasing student persistence and completion in the coming months.

We also enhanced instructional delivery by updating several more courses with the new rich media and simulations, as well as by launching our first MOOC, massively open online course, which is opened in partnership with -- which is offered in partnership with the Policy Studies Organization.

We are currently in the sixth week of this new, video-intensive, eight-week MOOC. In analyzing the results so far, we have found that active participants are engaging through more video content than originally anticipated, and there are a larger-than-expected number of international participants. While we are in the early stages of our use and analysis of this delivery model, we have plans to continue evaluating, developing, and launching new MOOCs in the future.

In addition, we plan to continue developing interactive learning activities and simulation resources for our classrooms, including through partnership with Second Avenue Learning, the game-based learning company in which we acquired a minority stake for $1.5 million in April of 2014.

We recently began collaborating on and co-developing new interactive courses with the University of Central Florida's Institution for Simulation Training and Mixed Emerging Technology Lab, and started a simulation development project with the students and faculty of the E2i, Engage to Innovative, create studio partnership. This is in addition to our own development of technologies and content that focus on the areas of collaborative learning, manipulatives, interactive maps, charts, and graphic elements, simulations, gaming elements, and 2D/3D immersive environments.

Interactive and engaging online environments are the campuses of the future. Like students of the past visiting college campuses before enrolling, we believe that prospective students will increasingly view the online campus as a key differentiating feature of a university. Moreover, greater levels of engagement, collaboration, and content will drive improved outcomes and enhance the learning experience.

We regularly review and update our course content. In fact, the majority of our industry advisory councils met in June as part of ongoing efforts to advance course content and real-world relevance.

Of course, we believe the best way to judge our success is by looking at the achievements of our students and alumni. For example, I'm pleased that one of our AMU students, Operations Specialist Lindsey Neumann, was just named the 2014 Navy Times Coast Guardsman of the Year in recognition for her lifesaving actions and leadership.

At our spring commencement ceremony we conferred degrees to more than 430 graduate students and 580 undergraduates who attended, and celebrated a record graduating class of more than 10,000 AMU and APU graduates from 2013 to '14.

Now at this time, I will turn the call over to our CFO, Rick Sunderland. Rick?

Thanks, Wally. Going on to slide five, financial results summary.

American Public Education's second quarter 2014 financial results include a 6% increase in revenues to $85.5 million, compared to $80.9 million in the prior year period. The increase in revenue was due to the inclusion of Hondros College of Nursing, or our Hondros segment, which earned revenue of $7.2 million in the second quarter of 2014.

In the quarter, our APEI segment revenues declined to $78.3 million from $80.9 million, a decrease of 3% compared to the prior year period. This decline in revenue was primarily the result of a year-over-year decrease in net course registration at APUS.

As previously discussed, we believe that the volatility and softness in the military enrollment -- in military enrollment is, in part, related to marketplace confusion over changes to TA eligibility, as well as other administrative changes in the military TA program.

In addition, we believe the volatility we are experiencing in FSA enrollment is, in part, related to strong prior year growth in net course registrations, which makes for a difficult year-over-year growth comparison, the initiatives we have undertaken to improve our quality mix of students, and the broader marketplace headwinds impacting online higher education in general.

In the quarter, on a consolidated basis, our costs and expenses increased 9% to $69.6 million compared to $63.7 million in the prior year period. The increase was due to the inclusion of the results of our Hondros segment, which was partially offset by a decrease in expenses in our APEI segment, resulting from lower net course registrations, and lower payroll costs.

Overall, our margins were impacted by the inclusion of our Hondros segment in the 2014 period. Our Hondros segment has a lower operating margin than our APEI segment, largely because Hondros offers the majority of its courses at physical campuses, which have a higher cost structure than courses delivered fully online.

However, Hondros segment operating margins increased sequentially in the second quarter, as compared to the first quarter. Next year we hope to realize recurring annual savings by transitioning the current Hondros LMS to Sakai, plus additional savings from other classroom enhancements and optimization initiatives.

For the quarter, instructional costs and services, as a percent of revenue increased to 35.3% compared to 33.6% in the prior year period. The increase was primarily the result of the inclusion of the results of Hondros, which was partially offset by a decrease in instructional costs and services expenses in our APEI segment, as a result of lower net course registrations and lower course material costs. The cost of course materials per net course registration at APUS declined year over year from $41 to $33 in the second quarter of 2014.

Selling and promotional expense, as a percent of revenue, increased slightly to 19.9% of revenue compared to 19.8% in the prior year period. The increase as a percent of revenue was due to the revenue decline in our APEI segment, while we continued to spend at levels comparable to the first quarter. As a reminder, approximately $900,000 of planned first quarter expenses were delayed and are expected to be incurred over the balance of the year.

General and administrative expenses increased as a percentage of revenue to 21.6% from 21.3% in the prior year period. The increase was due to an increase in technology related expenditures and to higher bad debt expenses in our APEI segment.

For the quarter, consolidated bad debt expense increased to $4.9 million or 5.7% of revenue, compared to $3.2 million or 3.9% of revenue in the prior year period.

For additional detail regarding expenses as a percent of revenue for our operating segments, please see the financial table that is included as an appendix to our presentation. This presentation is available on our website and was filed with the SEC as part of an 8-K.

As discussed last quarter, we continue to address various matters related to collections in order to improve student services and reduce bad debt expense. In June we engaged a new collections agency, and we plan to implement several new accounts receivable management processes, starting in the fourth quarter. The new processes will automate certain administrative steps, enhance the rigor and speed of communications with students, enabling us to engage them more frequently about account balances due, as well as to facilitate better coordination of these efforts with our collections agencies.

For the quarter, our effective tax rate increased to 38.6% compared to 37.8% in the prior year period. This increase was the result of the timing of the exercise of incentive stock options in the periods, and the impact of losses in certain minority investments.

In the second quarter of 2014, net income was approximately $9.8 million, or $0.56 per diluted share, compared to $0.60 per diluted share in the prior year period. Out outperformance relative to previously issued guidance was due to our increased focus on expense savings, and the impact of the stock repurchase.

We continue to take a careful look at all costs to make sure we are right-sized and utilizing resources prudently, while continuing to allocate sufficient resources to support important strategic initiatives. We continue to evaluate and implement additional cost savings initiatives, as appropriate.

During the second quarter of 2014, we repurchased approximately 416,000 shares of common stock for an aggregate amount of $14.5 million, and our Board of Directors recently increased our stock repurchase authorization by $15 million.

Total cash and cash equivalents as of June 30th, 2014, were approximately $89.8 million, with no long-term debt. Cash from operations for the six months ended June 30th, 2014, was approximately $22.2 million, compared to $34.6 million in the same period of 2013. The decrease was the result of lower net income and a decrease in current liabilities, primarily related to a decrease in accrued liabilities.

Now on to slide six, third quarter 2014 outlook. Our outlook for the third quarter of 2014 is as follows. APUS net course registrations by new students in the third quarter of 2014 are expected to decline between 12% and 8% year over year, and total net course registrations are expected to decline between 9% and 6%, year over year, compared to the prior year period. At Hondros College of Nursing, third quarter new student enrollment is expected to increase by 6%, year over year.

We anticipate consolidated revenues for the third quarter of 2014 to be approximately flat compared to the prior year. Third quarter 2014 total consolidated earnings per share are expected to be $0.44 and $0.51 per diluted share.

Now on to slide seven, key challenges. In closing the second quarter of 2014 was marked by a sequential and annual decrease in the rate of decline in net course registrations by students using TA benefits. This improvement was offset by a decline in net course registrations by students using FSA, which is attributable, in part, to strong growth in the prior year period, measures we have taken to improve our quality mix of students, and the challenging overall market for online higher education.

Net course registrations by students using VA benefits continued to grow year over year. In addition, Hondros College of Nursing is showing year-over-year growth, with a 17% year-over-year increase in student enrollment during the second quarter and a positive outlook for new student enrollment in the third quarter of 2014.

At Hondros, we are pleased with their plans for offering evening and weekend classes, their focus on strategic relationships, and their recent move to a new facility in Cleveland.

Overall, we believe the unique characteristics of our institutions and our long-term strategy position us well to face the challenges that confront APUS and the industry today. For example, in military communities we believe we have substantial reputational advantages as a leading provider with an effective outreach team, and new degree programs that may be of interest -- particular interest to military professionals.

In the civilian community we believe we provide a tremendous value as a low-cost, high-quality leader. We are creating awareness of our programs through corporate relationships and by building strategic partnerships with organizations, which may result in enrollments by students who exhibit greater college preparedness, on average.

We are making programmatic changes to focus on degree programs with higher prospects for growth, such as nursing, healthcare, engineering, and IT. In addition, we continue to innovate in order to deliver high-quality content through an engaging and differentiated classroom experience.

Recent revenue declines in our APEI segment make it imperative that we manage our costs and continue to look for ways to drive efficiencies, while improving student persistence. For example, our online platforms, PAD and Sakai, are designed around the concept of using automation to drive efficiency, and, ultimately, student success, and we continue to enhance these systems.

Additional efficiencies are created through process automation, such as our transfer credit evaluation, or TCE, process, and cost savings initiatives like our ePress initiative.

At the same time, our affordable tuition and the recognition we have received for best practices in online education may afford us advantages in the uncertain regulatory environment. Additionally, we believe our long-term strategy to diversify into new programs and segments while investing in education technology, affords us many advantages in changing environments.

Now we'd like to take questions from the audience. Operator, please open the line for questions.

(Operator Instructions). Your first question comes from the line of Corey Greendale with First Analyst. Please proceed.

Hi, good afternoon.

Hi, Corey.

Hey, so, first, on the guidance. You gave a lot of color around the trends by segment in Q2. Can you talk a little bit about that in -- elaborate on that topic in Q3 and kind of what's driving the continued declines?

Sure. Rick, you want to take that?

Yes. So, the overweight there in terms of what's driving the decline is going to be in the TA market, kind of mid-teens in terms of that decline, FSA down low double digits. And we see positives in both VA, which we've been experiencing, and potentially in the cash business. So, the non-TA and VA is likely going to be positive, slightly positive.

And what -- just kind of building on that, what do you think is driving the accelerated declines in FSA, for example?

We continue to try to tweak our attention to marketing in order to find more qualified FSA students, Corey. So, I think we talked on previous calls about how we've combined a detailed demographics analysis with our ability to pinpoint that from an Internet advertising perspective, as well as combining it in some markets with radio and TV. So, we continue to work on that. It's providing us -- while results are mixed overall, we did have improved retention and lower failure and withdrawal rates, primarily because we're seeking as hard as we can to find better students.

Okay. And, similarly, on the TA side, what's -- can you just give us kind of the current lay of the land on what's changing in Q3 relative to Q2?

I think on the TA side, DoD is going through a lot of changes. They've implemented this new MOU, which I think we're currently on the third version, and there are discussions, which goes effective on September 5th, and there have been rumors that maybe version four will come out before the third version's effective.

So, they've done things like, in the Army, they've implemented a manual form that has to be signed before anybody can enter the automated system that cost tens of millions of dollars to develop, years ago. So, I would say that a number of these issues are politically designed, and a number of these issues are designed, possibly, to save money, but nonetheless, it's created a little havoc with the process that people were used to before, and providers will have to adjust and students will have to adjust. But it makes predicting enrollments pretty difficult.

And I would add to that, so, there have been various versions of the new MOU. We just got, several weeks ago, change three, and the result of that is it has to be signed by September 5th, and, as Wally said earlier, we've signed it and we're waiting for a counter-signature from Department of Defense.

But, interestingly enough, so there's a listing online of schools that participate, and the listing represents those that have signed the MOU, and while we are currently under an active MOU, meaning the prior version, all schools were deleted from that list, and, as they've signed the new MOU they've been added back. So, if you go online and look at the list of schools that are under the MOU, we're not actually listed currently, which I just think is flat out incorrect that they would do it that way.

But I think that's created some headwinds in the market where students have looked online to find us listed, and we're not currently listed. We expect to be back on that listing shortly, because we've signed. But I think that's created -- that's depressed TA enrollments going into the third quarter.

That's helpful. And then, on the cost side, you've done a nice job of managing costs in the current environment. I don't think you've made any real wholesale changes.

So, can you help us think through, if enrollments continue to decline, what opportunities there may be to impact the cost structure more significantly, and, specifically, how we should think about ICS expense in a declining enrollment environment?

Well, our ICS expense is -- we have a mix of part-time faculty, along with full-time faculty, and we try to assign our course registrations appropriately through a very elaborate scheduling program that we developed in partnership with another company about two years ago. So, we think we can head off changes there by being very adept schedulers, and keeping our costs close to variable, even though we do have 400 and some full-time faculty members.

As far as the other things, we have service level attainments for our various departments, whether it's financial aid or student services, and if the number of students we serve drops, then we'll look at how manage those departments.

Great. Thank you.

Your next question comes from the Adrienne Colby with Deutsche Bank. Please proceed.

Hi. Thanks for taking my question.

I was wondering, in terms of your marketing expense, I know in the first quarter there had been delayed spend. Just wondering if, again in the second quarter, there were any unusual changes there, or if that's kind of a run rate we should be looking for, for the back half of the year?

I think there was -- as we talked about in our last call, we had some marketing costs from Q1 that rolled into April, and so, many times, particularly when we are utilizing the target market approach, which is what we're calling our review of demographics for our civilian marketing, that sometimes we can have a delay of two or three weeks before an order for media is put in. And so, towards the end of the quarter, whether that money gets spent or not is really a matter of the advertising orders being executed on time.

So, ideally, if you ignore the carry over from the first quarter into April, I would say that we continue to try to spend, to cap our spending around 20%. But at the same time, modeling that precisely when we can't predict exactly what the enrollments are going to be, particularly in both -- now in both the Tuition Assistance, as well as the FSA market, makes it not exactly an exact science.

But we'll continue to try to manage it along that 20% perspective. But if we get a little higher, it's probably due to timing more than anything else.

Okay. You mentioned some improvements in persistence in your FSA students. Just wondering if you could talk about what you think is driving that, and I know you've mentioned piloting some orientation programs you were going to offer in the beginning of students' tenure. So, I don't -- where are you at in terms of the roll-out of those mandatory orientations?

We've always had a mandatory orientation for someone who transfers in with no credits. So, we've actually gone through a review of our top five volume general education courses, as well as our required orientation course, College 100.

We've put together teams of faculty members and program directors who have looked at the engagement of students in those courses in the first two weeks, and we've reduced our DWIFs, which is sort of an industry-standard term -- grades of Ds, withdrawals, incompletes, and failure rates. And we've been able to reduce those through increasing engagement up front in the first two weeks of the class.

If I could just ask one last one, can you update us on what the enrollment was in your MOOC? I think you said you were six weeks into that?

That's a good question. I'll ask somebody to try to find that. It was -- I think we intended to cap it at about 1,250, and I think we ended up going over a little bit to around 1,400.

Thank you.

Your next question comes from the line of Peter Appert with Piper Jaffray. Please proceed.

Yes. You've got John Crowther on for Peter. Just have a question about the nursing school. I wonder if you could maybe talk a little bit -- if there's any seasonality to that business in the back half of the year. And talk about the capacity that you have there right now versus how many students are enrolled, and what demand trends might mean for additional capacity down the road?

Sure. Harry?

Yes. It is a little bit seasonal. The fall quarter is usually a little bit better than the others. And the key there, in terms of limitation, it isn't necessarily the class size, or the building size, it's the clinicals. We really -- that's why we're trying to establish these new relationships. We have 13 new relationships this year. We need to get more clinical spots, so we can place our students. As part of the curriculum, they have to do clinical.

So, that's the limiting factor right now, but we certainly think we can have good growth. We're projecting 6% growth in the third quarter, and we're looking to continue to grow.

We still have -- the Department of Ed has not yet given full approval on our change of ownership, which currently limits us from expanding to other sites, but, certainly, that's part of the long-term strategy to grow the business, too.

The evening class -- we also are launching evening and weekend classes for the first time in the fall, and we're anticipating that they will have a positive impact on enrollment going forward.

Great. And then just -- you've talked a lot about the efforts you've made on the APUS side in terms of improving persistence. Just looking at 3Q guidance, it looks like the total course registration number is a little bit lower than I would expect, given, even the pressures you've seen on new students there. I'm wondering if there's any sort of one-time items there, or if some of those benefits to persistence might take a couple quarters before they really start to show up in the numbers.

I think they will take a couple of quarters. For example, the positive results that we discussed, were really results from students who took courses in the second quarter, and so, we didn't have all of those initiatives in place in the first quarter or the last two quarters of 2013. So, as we continue to roll through the initiatives with the new students, primarily, we should see results, but we aren't going to see them, obviously, in the third quarter of this year.

Your next question comes from the line of Jeff Silber with BMO Capital Markets. Please proceed.

Thanks so much. I just wanted to circle back to Hondros. Was there a specific reason why new student enrollment declined in the first -- excuse me, in the second quarter, on a year-over-year basis?

Harry?

We're -- again, we're comparing it with a time when the company was owned by two individuals. It was a private company, and it was very -- the enrollments were not really consistent one quarter to the next. If they spent money on marketing, they got enrollment. If they didn't, they didn't.

And it wasn't -- I think what you're seeing now is more consistent enrollment and we're having to deal with the fluctuations year over year of the times in the past when it wasn't necessarily consistent. So, they had good quarters and bad quarters in the past. We're trying to be much more consistent with our enrollment.

I think you'll see those trends -- it won't be as unusual -- you won't see those unusual fluctuations going forward. I think we'll see more steady growth.

Okay. And you had mentioned that you have not gotten change of ownership approval from the Department of Education. Is there anything else kind of limiting your expansion of Hondros in terms of going into other markets?

No.

Okay, great. And then just quick numbers questions. What tax rate and share count are embedded in your EPS guidance?

So, the tax rate -- the year-to-date tax rate you should use, going forward. The share count would be 17.6, 17.7, I think is the number.

And the tax rate's 38.2%.

All right. Thanks so much. Appreciate it.

Your next question comes from the line of Jerry Herman with Stifel. Please proceed.

Excuse me. Thanks, everybody. Excuse me.

Wally, I was wondering if the bad debt expense is a reasonable rate number?

Well, I wish it wasn't, but if you recall, when we did our Regent conversion, we had a number of hiccups with that, and so, typically bad debt is a sequential recognition that if we can't collect it over the course of the next 12 months, we need to reserve for that. And while we've improved tremendously with the interaction with that software, it'll take us a while to get that bubble out.

Great, thanks. And in the last couple of quarters you guys broke out the operating income coming from Hondros. Can you give us that number for the quarter?

Sure. The operating income for the quarter was $783,000. Year to date is $1.481 million.

And now that I got my voice back, I'll ask a longer question. With regard to funding, I appreciate the comments about the stability in funding. But in the past, you've talked about some of the eligibility changes. And I'm wondering -- realizing there's confusion in the market for would-be students, I'm wondering if you can have updated thoughts on how those eligibility changes might impact your traditional student profile?

In other words, what percentage of students may not be eligible based on sort of the legacy profile that enroll?

I assume you're talking about Tuition Assistance, Jerry?

Correct. I'm sorry. Yes, absolutely, Wally. Thank you.

The eligibility that changed primarily was most of the branches said that enlisted in their first enrollment term would not be allowed to use TA. That's really not our profile of our student. Our average undergrad student is about 29.8, last time I looked at the precise number, and our average grad student is approximately 36.5.

So, we're not normally seeing students of that age, and, in fact, our outreach people would tell you that typically a good ESO wouldn't allow someone in their first enlistment to enroll, because they're busy training. So, they changed the rule, but it really wouldn't impact who was our traditional student. Our traditional student's generally been someone who's an E-5, which is a mid-tier sergeant, who's in their second or third enrollment, who's look at enhancing their promotability, as well as preparing for their career once they're discharged.

So, I don't think that's as impactful as some of the other changes, particularly relating to the inconsistency in funding, and issues like manual forms, and probably -- possibly, also, the complexity that there will be draw-downs with some of the services with the withdrawal from Afghanistan. So --

Great. Thanks, guys. I'll turn it over.

Your next question comes from the line of Jeff Volshteyn with JPMorgan. Please proceed.

Thank you for taking my question. I wanted to ask about your thoughts beyond the third quarter, without giving guidance, as we look at the year-over-year comparable in last year, it's getting a lot easier, because of the challenges you saw. How should we think about the fourth quarter of 2014, again, just sort of directionally?

Well, I -- we haven't looked at the fourth quarter, and what we've been telling you for a while now is that pretty much all the military bases are only allowed to register 30 days out. So, we have less insight to that.

But if you just want to -- if you recall, the fourth quarter of last year, October, we had a total freeze on TA students. So, we had no TA students enrolled as new or returning students, starting in the month of October. We did have some students in place.

Right. That was because of the partial government shutdown in October of last year.

And we're hopeful that that's not going to happen this year. But that -- I guess that's just from a comparable perspective, I think that's the big picture evaluation of a year ago, and we really have no insight towards this year's fourth quarter.

That's helpful. For this third quarter guidance, what is implied for Hondros as far as revenue contribution? Or, in other words, what's ex-Hondros? How do you break it up between the two?

I would say the number is slightly higher than what was reported in the second quarter. We reported $7.168 million, so take that number up a couple, three hundred thousand dollars.

When I do that, is it reasonable to think that revenue per registration at APUS might turn slightly negative?

Revenue per registration shouldn't turn negative.

No.

I mean, we've talked about the number of net registrations declining, but not the revenue per registration changing.

It has been stable.

Okay. One more question, if I may. You graduated 10,000 students this year. When you look at graduations going forward, is that a tailwind, or is it more of a headwind for your total registrations, total enrollments?

We don't have a forecast available to share, but I don't believe we're going to see a decline in that, just speculating, and we can, certainly, if something than that comes out, we can issue an 8-K on it, if we have to. But I would tell you that our good students are our good students, and as long as they're funded, they should come back, and one of the things -- the statistics that we track is that our -- of our undergrad graduates, those receiving either an Associate's or a Bachelor's degree, we still have a pretty good, steady percentage of students coming back for a second degree, and right now, that's running at about 45%.

Okay, great. Thank you so much.

Your next question comes from the line of Timo Connor with William Blair. Please proceed.

Thank you. I wanted to follow up on Jeff Silber's question. What's holding up the Hondros change of ownership, and then, when do you expect that to go through and when do you expect to be able to grow into new campuses and locations?

Well, we haven't given any guidance on new campuses or locations. So, we changed our Cleveland location because the lease expired. But Jeff did correctly surmise that if you want to add campuses you've got to get the final approval.

So, we put in all the paperwork within 60 days. They asked for some changes. We gave them additional paperwork, and we're hoping that it will be soon, that the -- I guess the disadvantage to us is this is a different region for the Department of Education than the region that we typically deal with. So, I guess they've got to learn a little more about us than they know, and, hopefully, the paperwork will be processed pretty soon.

Okay. And then, very low marketing spend in that business. What is marketing spend -- what will that look like, over time, and then, what's the sort of more structural margin profile of that business?

I would ask Harry. I mean, we disclosed for the second quarter that we spent about 6.9% of our revenues on selling and promotional, but, Harry, do you think that's going to change significantly?

No, I don't. I mean, I think that that's the nature of that business. It's going to a lot of referral, a lot of relationships, a lot of presence, physical presence, in the community, with campuses, so you don't have to spend as much money, as a percentage of revenue, on marketing, but we spend more on facilities, of course.

So, the -- it's -- I don't think that -- I think we'll see margin improvement certainly, particularly when we bring the LMS in house, and right now we're using -- because we had a contract that required us to do so, we're using an outside party that costs about $75,000 a month. So, we'll bring that in house as of January 1st, when the current contract expires, and then we'll have some significant margin improvement there.

But I think the marketing spend, as a percentage of revenue, won't dramatically change.

And then, having been involved with that business for almost a year now, I guess what are your big picture takeaways on the nursing education market, in general, and how has the business met your expectations so far?

Great management team, great business. Nursing is -- healthcare -- the nature of healthcare in our country is really changing. More and more of the healthcare is being pushed down to nurses. And the requirements that healthcare providers are requiring from nurses is increasing, all of which is good for us.

More and more nurses are required to be registered nurses. More and more nurses -- more and more healthcare providers are seeking nurses with BSN degrees, at least. We think that trend is going to continue to MSN degrees and DNP degrees, doctor of nurse practitioner degrees, will be providing more and more of the healthcare.

And we think that nurses will be -- need to be lifelong learners. They -- those nurses are required to have continuing professional education, which also gives us opportunities to provide -- in order to maintain their licenses, once they get them, they need to have continuing education courses, which we can provide.

So, we're very excited about the opportunity. Nursing -- it's a very fragmented -- nursing education in the US is very fragmented. We think there's great opportunity for us to emerge as a real leader there.

Okay, thank you. And then, final one for me, the business as a whole, it's been going on five, six years of operating margin compression. Obviously, the end markets are a little more challenging now than they have been in a while, but is this a kind of temporary dip in margins, or a more structural reset toward just the new normal?

I would say that the issue for us really hasn't been margins as much as it's been revenues, and choppy revenues and enrollments. Overall, higher education enrollments peaked in the fall of 2011, and with increasing access to online technology, particularly by state schools, all of us have seen increasing competition online, and so, we're trying to make the best of areas where we have niches, where we can focus on increased advertising and promotion, and where we offer degrees that are offered by everybody else, it's highly competitive.

So, I would say that I think we do a great job of managing our costs and trying to maintain the margins, and in the periods that we don't, it's really because we probably didn't hit the revenue side that we were hoping to hit.

And we still have the pricing flexibility.

And, by the way, that's true. We still have flexibility in pricing by being so low, and the real difficulty of implementing a variable pricing strategy is, we need to have the systems in place to do that.

Okay. A really quick follow-up there. So, would you consider another -- passing on another fee increase in FSA?

We would consider it, if we had the capability to do that. So, right now, we are in the midst -- we talked about it on one of our calls, either the last one or the one before. We've got a major reprogramming of our shopping cart, we call it, inside of PAD that will allow us to do flexible pricing by degree program and as soon as we get that capability in place, we may consider some change, particularly on the FSA side, which isn't as price sensitive as the military market is.

Okay. Thanks very much, guys.

(Operator Instructions). Your next question comes from the line of Trace Urdan with Wells Fargo Securities. Please proceed.

Thanks. I wondered if you guys have seen any increased use of FSA by members of the military, in other words, places where the TAP dollars are insufficient, are people dipping into FSA? And can you even see that?

Interesting you asked that question, Trace. I don't have a quarter-by-quarter analysis, but last year, that ran about 30% of our military students used FSA, and I would say the vast majority, if not all of that, was enlisted. The officers probably make more than enough to not have to dip into FSA.

So, I haven't heard anyone inform me that that percentage has changed, but, interestingly, in the MOU DoD made it a requirement that all institutions that want to participate in the MOU have to be participating in the FSA program, and there are quite a substantial number of small, for-profits that don't participate in FSA that, I think, have 15 or 18 months to be FSA-eligible, otherwise they can't participate.

That is interesting. And then the other thing I wanted, I don't think you touched on this. I apologize if you did. Any commentary about differences in demand by program are? Are you seeing any meaningful spread there, or maybe give us a sense of the range?

We -- the timing of this, we have a Board meeting this week, which is our annual strategic planning meeting. So, that hasn't occurred yet, and that's one of the things we're looking at.

But to the best of my knowledge, we don't have any major changes one way or the other. We do have some new programs, and when we offer new programs, they get higher enrollment up front, but I can't think of any specifics that would be significant, one way or the other, other than some brand-new programs, which have early enrollment numbers.

Okay. And then, maybe more of a big picture question, going back a little bit to the discussion you were having with Corey, I definitely appreciate what you're doing with respect to the FSA in trying to -- what I would describe it, it sounds almost tactical in terms of trying to identify pockets of high-quality students and bring them in at a reasonable price.

But I'm wondering, at some more big-picture level, about the positioning of your product in the civilian market, relative to the competition. And I'm thinking specifically of Southern New Hampshire University, which has seen such tremendous growth with a very aggressive marketing campaign, which they seem to be able to fund, somehow, even though they have a price point that's comparable to yours.

And I guess I'm just asking you to comment, more broadly, about sort of where you see you guys positioned in the market, in the civilian marketplace, and whether -- whether there's a -- is the issue -- it seems to me that your value proposition should be so strong, relative to competition, and we're not seeing evidence of that. And I'm wondering if you feel like there's a disconnect there, in terms of just awareness or, I don't know, something?

Trace, thank you --

Sorry for the broad nature of the question, but --

No, I understand. I think if you look at most of the data over the last five years, particularly on the civilian side, higher ed is not price -- has not been price sensitive. There are a couple of recent studies that have come out. I may have tweeted links to some of those studies over the last 60 days, that indicate somewhat more price sensitivity, with certain segments of the populations -- of the population overall either not enrolling or enrolling in less-expensive institutions, and, clearly not inclined to borrow.

I think student debt for new students fell is -- in the last year compared to previous years. But it's been -- I would tell you that our sensitivity to pricing stemmed from our familiarity with the military, and I think our success in growing that market over the years, in addition to quality, also related to being very price sensitive and not increasing tuition to force them to out of pocket on their expenditures.

That really isn't the case, yet, if you look at the data. And so, as we get the capability to be much more flexible in how we price, which is a systems issue for us, unfortunately, we're going to take this into a much more in-depth study of what the right price is for the civilian marketplace, because I do believe, and I would actually start this with graduate degrees first, because they're easier to compare, that if you look at how much lower we are on our graduate degrees compared to the in-state grad degree rates, I would say that's probably negatively influencing us.

And so, given what I believe is a high-quality faculty who are staffing those graduate programs, to the extent that we can get some flexibility, that's where I see our biggest flexibility coming first, particularly among civilians.

Okay. That's really interesting. I'm glad I asked that question. Thanks.

There are no further questions in queue. I'll now turn the call back over to Mr. Symanoskie. Please proceed, sir.

Great. Thank you, operator. That will conclude our call for today. I wish to thank all of today's callers for participating and for your interest in American Public Education. Thank you and have a great evening.

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a good day.