Bright Horizons Family Solutions Inc (BFAM) 2005 Q2 法說會逐字稿

Ladies and gentlemen thank you for holding and welcome to the Bright Horizons Second Quarter 2005 Earnings Release Call. The host for the day is Mr. David Lissy. Mr. Lissy you may now begin.

Thanks Chris and hello to everybody on our call today. Joining me on the call as usual is Elizabeth Boland, our Chief Financial Officer, and we will begin today's call with Elizabeth going through a few administrative matters. Elizabeth?

Thanks Dave. Our earnings release went out over the wire after the close of the market and is also available at brighthorizons.com. This call is recorded and is being simultaneously webcast and a complete replay will be available in either medium. Those wishing to access the telephone replay is 973-341-3080 and use pin code 6252946, while the webcast will be available at our website under the Investor Relations section.

In accordance with Regulation FD, we use these conference calls and other forums to provide the public and the investing community with timely information about our business operations and financial performance, along with our current expectations for the future. We adhere to restrictions on selective disclosure and limit our comments to items previously discussed in these forums. Certain non-GAAP financial measures may also be discussed during the call, and detailed disclosures relative to these measures are included in our press release as well as the Investor Relations section of our website.

The risks and uncertainties that may cause future operating results to vary from those we describe in our forward-looking statements made during this conference call include - one, our ability to execute contracts for new client commitments, to enroll children, to retain client contracts, and to operate profitably abroad. Two, the effect of governmental tax and fiscal policies on employers considering work site childcare. Three, the capital investment in employee benefit decisions that such employers are making. Four, our ability to complete the acquisition of ChildrenFirst under the negotiated terms. And lastly, the other risk factors which are set forth in our SEC filings including our 2004 form 10-K.

Thanks Elizabeth and hello to all of you who just joined us on the call. Let me begin today with a recap of our second quarter results. Revenue for the quarter of $157 million, was up 15% over the last year's second quarter while operating income rose to $15.6 million, up from 11.8 million. Net income of $9.5 million generated earnings per share of $0.33, up 32% over 2004 second quarter. I'm pleased to talk to you about what was another strong quarter for Bright Horizons. I'll focus my comments today on three main areas. First, I'll review the main contributors to our year-to-date operational and financial performance. Second, I'll talk about our pipeline and our growth outlook for the remainder of 2005 and beyond. And lastly, I will talk in more detail about a previously announced agreement to acquire ChildrenFirst and update you on our guidance for the remainder of this year.

Let me begin with the review of our year-to-date performance. As we pass the mid point of our fiscal year, our year-over-year revenue growth is on plan at 15%. Operating margins are up 130 basis points, driving earnings per share growth of 34% for the first six months both ahead of our expectations at the beginning of the year. There continue to be three major factors that is driving these results.

First, the addition of new capacity to our network. The single largest contributor to our performance year-over-year has been the 52 net new centers and the expansion of capacity of existing centers since last year's second quarter. This mix includes new organic centers, the outsourcing or transitioning of existing centers to our management and acquisitions.

The second factor in margin improvement is managing the interplay between solution increases and labor costs. Our operating discipline around annual solution increase and cost increases as well as careful attention to appropriate starting levels at centers allows us to achieve consistent operating leverage. In 2005, we are on plan to increase tuitions 4 to 5% on average, which provide some margin leverage relative to our estimated wage increases of 3 to 4%. As some have pointed out, government industries have indicated that average wage increases in the childcare industry have been fairly low over the past couple of years and some providers had significantly faired that wage increases during the slower economic period.

To be clear, this has not been our approach at Bright Horizons. Our aim has always been to be the employer of choice in the early education field, and we've remained committed to raising professional standard of our teachers and other professionals. Offering to system annual wage increases is both important in our ability to maintain the quality of our programs, but also serve to smooth out the larger spikes in annual wage increases that would occur -- had recently mired (ph) the national trends over the past two years. On an ongoing basis, we work with our client partners and parents to help them understand the value of providing distributing salaries and benefits. This (indiscernible) is not limited strictly to actual wages but also includes medical benefits and workers compensation both of which have been escalating at rates well above salary increases. This strategy provides the stable platform for us to deliver high quality care and education and that's resulted in lower recruitment costs and lower turnover as compared to the industry average.

Now let me move on to enrollment growth, which is the third key contributing factor to our performance this year. We continued to see modest but important growth in our ramping centers and mature base averaging only 2% year-over-year growth for June. In the third quarter, we experienced our typical seasonality, as our 4 and 5-year-old (indiscernible) go to our elementary school and we expect to rebuild enrollment in the fall. Over the longer term, we anticipate improvements over current levels to be a bit more modest, but still remain a key factor in our year-over-year performance.

I want to switch now and talk about our growth this quarter in terms of new center development. We added 5 new centers this quarter and now had the capacity to serve more than 64,200 children and families. Including in this network were 2 new healthcare plans, The Sioux Valley Hospital in South Dakota and Health Protection Agency in the UK. Two new financial service clients here in US, The National City Bank and Huntington Bank both in Ohio and rounding up this quarter's new center additions of transition to our management of a center to Venetian Resort Hotel in Los Vegas, a second center for employees in the gaming industry. In the quarter, we also closed 5 centers. As you know, the timing of new center additions has never (indiscernible) and so far this year, we've got 22 new centers. In most cases, we don't directly control the actual timing of openings, as we are working with our clients on the development and construction process. This year, we expect to open proportionally more centers in the third and fourth quarters relative to prior year. Including the 33 centers to be added from the ChildrenFirst acquisition this fall, we expect to add roughly 55 new centers in the next two quarters.

In terms of center closings, you recall we had none in the first quarter and 5 this quarter and looking ahead, we expect to close approximately 15 centers similar to the average over the past few years. (indiscernible) look ahead of the remainder of 2005 and beyond, our pipeline of more than 50 centers under development continues to provide a solid, visible indicator of our future growth. In addition, we continued to see strong activity and interest in our underlying prospect base. In fact, at the beginning of the year, the total number of early stage prospects has increased by about 10%. We're encouraged by the increase in activity in cyclical industries such as financial services and technology, along with a continued strong interest in the more atypical areas such as healthcare, higher education in Government agencies that have been relatively stronger sources of growth for us, as you know, over the past few years. Another new area with increased sales activity is professional services, specifically law firms. As these firms continue to focus on the recruitment and retention of female associates and partners, we see a good opportunity for continued growth in this sector. While these trends are all positive, the best-interpreted and longer-term indicators giving a long length about our sales cycle.

In addition to new centers, another important source of capacity growth are expansions in existing centers. Although these are not included in the pipeline numbers, we've also seen a marked increase in the number of expansions. Currently, we have roughly 15 centers undergoing expansions, with total capacity expected to approximately 1,000 new spaces.

Now, let me turn to our previously announced acquisition of ChildrenFirst. We are truly pleased that we would be bringing together the two leading providers of back-up childcare and creating a broad platform for future growth and expansion. This combination will immediately bring more value to our combined client base of over 600 employers. ChildrenFirst is founded in 1992 and is based here in the Boston area. They currently operate 32 centers in the US and 1 in Canada, with several in the pipeline and currently generate annualized revenue of approximately 31 million. Together, we'll operate more than 70 dedicated back-up centers across the US, UK, and Canada, with more than 50 back-up programs co-located in four service centers. The back-up childcare market has been attractive to us for several reasons. First, back-up care, which provides working parents with an option when the traditional childcare breaks down or during a school holiday, reduces (indiscernible) and improves productivity, which yields a clear and strong return on investment for employer's sponsor.

Second, it enables employers with smaller employee populations to offer childcare benefit and enables more employees to access the benefit given that it serves children from infancy through age 12. Third, it has greater potential for growth in urban worksite locations than full service care due to space constraints and more usage by working parents of public transportation in those locations versus driving to work. Lastly, it represents a solidly profitable segment of our industry, with historic center margins in the 25 to 30% range.

We want to view ChildrenFirst as a great fit with Bright Horizons with its concentration in sourcing centers in major cities and with over 270 clients, they are a natural complement to Bright Horizons predominantly single client model. So it refers as a strong and well-deserved reputation as a quality provider and developed state-of-the-art management systems for backup childcare. We don't anticipate making many changes with the way the synergy operates, however, there will be cost synergies to be gained in the overhead area through the combination of our two operations. In addition, we believe there are many opportunities to cross sell and add more value across our standard client base. These opportunities include offering full service childcare and the Bright Horizons' network access programs to the legacy ChildrenFirst clients and prospects and offering the legacy Bright Horizons clients and prospects, a wider array of back-up options through the ChildrenFirst national network, up in social back-up centers. When combined, we'll offer clients and new prospects the highest quality and broadest array of employees' funds and childcare services in the industry.

Elizabeth will provide more details regarding the financial impact of this but I will tell you that we expect the transaction to close late in the quarter or very early in the fourth quarter and we do expect the net impact will be accretive and will contribute roughly $0.04 to $0.06 of EPS annually. Our valuation, which has slightly bothered additional range due to the strategic nature of this field, includes our ability to achieve cost savings in the overhead area, most of which will happen in 2005. All in all, we believe this is a great combination, and we're looking forward to closing the deals and putting our combined resources to work on behalf of our clients and prospects. Based on our excellent size of the year, in terms of growth and margin improvement, and anticipating a closure to closure on the ChildrenFirst deal in early fall, I'm pleased to tell you that we're raising our earnings per share guidance for fiscal year 2005 from the previous range of $1.18 to $1.22 up to a new range of the $1.23 to $1.26. We're proud of our results that started this year and more importantly feel great about how strengthening our organization today for continued growth and prosperity in future. Now we carry over Elizabeth to run you through the financial results in a little more detail and I will talk to you again during Q&A. Elizabeth?

Thanks, David. Again turning the stage for the financial discussion, revenue of 157 million, was up 20 million or 15% from the second quarter of 2004. Operating income in the quarter increased to 9.9% from 8.6% last year while net income rose 2.6 million to 9.5 million. EPS of $0.33 is up 32% from the $0.25 we've reported for Q2 of last year on a 2% increase in weighted average shares outstanding. Revenues were continued to be driven by the three main components as David mentioned, growth in the number of centers we manage with the capacity under management. Secondly, additional involvement in ramping as well as mature centers. And thirdly, price increases. As David mentioned, we've added a total of 22 new centers in 2005 and closed five, for net new openings of 17. Thinking of (indiscernible) we've added 52 centers net of closures since the end of second quarter of '04 and we expect to add more than 75 new programs this year and close approximately 15 for a net in the 60 plus range for calendar 2005. We've already strengthened the normal levels that we have discussed the past several earnings calls also continue this quarter. As a reminder, our financial performance is somewhat stronger in the first half of the calendar year due to the higher levels and peaceful environment in most centers. In addition to the usual margin strength we see during the first half we've continued to realize modest enrollment growth in P&L contract centers that have been opened more than two years. The average tuition rate increases past year of 4 to 5% has also contributed to topline growth.

Center margins increased 18.3% for the quarter, compared to 16.8 in the second quarter of '04 and 17.8 last quarter. The primary factors in the improved margins are first, the modest enrollment improvements that we just mentioned. Second, labor cost management and the operating efficiencies that accompany higher enrollment levels. Third, contributions from new cost plus centers, transitions of management of existing programs and acquisitions, which come into us at a fully mature operating level, as well as improving performance in our UK operation. Since Dave already addressed the enrollment labor effect, let me expanded bit on the UK operations. Just to remind you the UK and Ireland represent under 10% of our revenue or approximately $55 million annually. Continue to see improved overall performance in European operations where we've made pretty significant investments over the last several years.

A combination of growing enrollment in our installed base, the addition of new organic and acquired centers over the last couple of years, and a continuing movement toward larger capacity centers have all contributed to the overall increase in center margins. While the relative impact of these centers is still small in Europe as compared to our US base we're still very pleased with their performance, specifically we see steady improvement at the operating margin level as well as contribution after overhead investment, which remain out sized (ph) for the current revenue base. We will expect to continue to leverage the overhead investment over the next several years as we expand our footprint in Europe and would look for this operating performance to match the US levels over time. Having added nearly 30 new centers in Europe over the last couple of years, we're well on our way to achieving the status of UK market leader in employer sponsored child-care. Moving out of overhead, SG&A as a percentage of revenue was 8.1% in the second quarter of '05, compared to 8.0 in 2004 and 8.3% last quarter. As we previously discussed our on going spending for Sarbanes-Oxley compliance has increased substantially but is now embedded in the base SG&A and we expect to regain our trend in overhead leverage with future growth.

Amortization of identifiable intangible assets totaled approximately 400,000 in the second quarter, considering the expected full year affect of acquisitions, we are projecting amortization to approximate 2 million in 2005 and 3 million on an annualized basis going forward.

Our strong financial performance so far this year has driven a 29% increase in EBITDA to approximately 36 million for the six-month period, while capital spending totaled 6 million for the six month. We ended the quarter, with approximately 80 million in cash. Let me recap our usual operating statistics, at June 30, we operated 577 centers 60% of which are operating under a profit/loss contract and 40% of which are cost plus. We have the capacity to serve 64,240 children and families in our centers. This equates to a 127 average capacity in our US centers and schools, and 55 average center capacity in Europe, and we've completed the ChildrenFirst acquisition, we expect to provide capacity figures that separate the dedicated backup centers.

Let me now expand on our guidance, I'll begin with a closer look at ChildrenFirst and then wrap that into our revised guidance. The 33 ChildrenFirst centers, which as Dave mentioned, we expect to add at the end of the third quarter or early in the fourth quarter, generate approximately 31 million in revenue full year and have an average capacity per center at 40. The consortium nature of the sponsorships in 75% of the centers drive both a higher center margins than a typical full service center, over 25% and also higher SG&A costs, over 15%, as the support system to service the multiple client and care relationships is considerably more intensive. Including the cost associated with amortization in interest on the cash purchase price, we expect the addition of ChidrenFirst to be modestly accretive in 2005 around a penny a share and contributory at the level of $0.4 to $0.6 a share in 2006, as we begin to realize overhead cost synergies and the strategic value of combining our client service offering. So, based on the core business performance and incremental new center opening including ChildrenFirst centers, we except to generate revenue growth of approximately 15% for the full year 2005. Given the rate of margin improvement we have seen since 2003, we also expect to sustain an improved operating margins over the third and fourth quarters of '05, but at a more modest level than in the first half with operating income for the full year 2005 expanding 75 to 100 basis point.

With an estimated tax rate just over 41% and outstanding shares averaging approximately 28.6 million, our projections are for earnings per share for the full year to range from the $23 to $26 per share. For the third quarter of '05, we were estimating EPS at $0.29 to $0.30 per share and fourth quarter $0.31 to $0.33 per share. Both quarters reflecting the seasonal operating trends that we have experienced throughout our history. With that Chris, we will open the call for questions.

[OPERATOR INSTRUCTIONS]. Howard Block, Bank of America.

Thank you, good afternoon and again congratulations for another strong quarter. First question, on the labor cost you mentioned a couple of times staffing levels and I'm just wondering I have always first thought that when you are talking about controlling labor cost it did have more to do with being able to control wage increases. Is there some way that you found to perhaps manage within the ratios in a more effective way, or is there something about the head count issue more than necessarily just the wage itself?

I think Howard what you referring to there really has no difference in sort of the discipline that we honed over a long period of time, which is being sure that we are carefully monitoring the appropriate numbers of staff in our centers, as in all (indiscernible) on an ongoing basis and we are able to be sure that we have got the right numbers of staff in place there, at various points in time, and that really is a discipline that our operating team has done a great job on and has done for a long time, but we are careful always to point out that in addition to managing the interplay between the wage increases and tuition increases, which is really key that our ongoing ability to manage appropriate levels of staffing at centers is also important in our ability to gain leverage over time.

Okay, I don't want to belabor but let me just -- one of the investor concerns that has been expressed has been about labor cost, what I was just trying to home in on is whether or not the margin improvement we are seeing is the result of your ability to actually control the wage that you are paying your employee to a greater extent in managing the ratio or is it vice versa or in other words you need investor to be concerned about the possibility that in the near term wage increases for the change or you are actually more effectively managing the staffing level, which is primary and which is secondary?

I would tell you that managing appropriate staffing level is a sort of like the basics, that has to happen and doing that well over time is critical to not to continuing to keep momentum going, that's one of the basic of managing this business successfully. With respect to year-over-year increases and wage increases, our view point and I tried to make this point in my comments, we feel we kept the pretty consistent strategy in place even when the national indices were telling us that the market was pretty forward less of an average wage increase we were ahead of the market continuing to be sure that our compensation stayed ahead of the curve, and we think that provides for us a smoother and sort of softer landing rather than sort of going to a lower wage increase at that point and having to spike it up when we are starting to feel a little bit of pressure. So we feel like I guess, both the long and short of it is to say we feel like we are really well positioned right now as it relates to our ability to continue to put forward a kind of wage increases we think we are going to need, and then the price ahead of it, which really is the key. As you know over time, it really doesn't matter if the average wage increase is 3%, 4% or 5%, what really matters most is that if we can price ahead of that and stay ahead of that curve, so that on annual basis if we can keep tuition increases about 1% ahead of what the then annual wage increases are, we are in really good shape.

Okay, let me ask a shorter question now, then I will jump back into the queue. This comment you had about the number of expansions, I think you said you are 15 currently, that's an existing footprint that is growing correct, that's not a new location?

No those are -- we want to point out that we have seen an increase in the number of existing centers that are currently with us, or have been with us, that are expanding the capacity at that existing side. When we talk about our pipeline we don't typically talk about that in the numbers, but that plays a role in terms of the capacity expansion year-over-year, and that numbers of centers is almost double, what it was this time last year.

Number of expansions you mean?

Yes.

Okay, and so those expansions are almost by average above 50% or more on the existing footprint?

It can vary Howard, from being adding a one classroom that might add 10 children to being a doubling in size. So, there is no real --.

I was just doing the math, (indiscernible) of thousands of thousands--?

Yes, those 15 add up to about 1000 capacity adds, when we add just those 15 expansions.

Okay, great thank you.

You are welcome.

Collin Macquee (ph), Credit Suisse.

Hi, I was just wondering If you could talk a little about the environment in Europe in particular what you are seeing in terms of weakness and the sales cycle?

I think what we are seeing in Europe really, is not that much different than what we are seeing here. We are seeing good activity in terms of our early-stage prospecting, and we are really there to a little more of a larger degree, a missionary sale, and it is here we have sort of gone a little further in the evolution of employer-sponsored child care. There we are still -- it looks a little more like it may have looked here five or ten years ago in that we are doing a lot of front-end education, but we are seeing some good progress, and I think Elizabeth mentioned over the past few years, we have opened 13 or added 13 new centers there, combinations from some acquisitions and some organic growth. And then with respect to waiting list in centers, again I think it nears what we experienced here varies five center. An average center would typically, see up a pretty strong waiting list in the younger children, the infant/toddler classes and then slightly less of a wait list if any at the preschool level. So where we do have added capacity in centers that tend mostly, to be in the preschool four and five-year old ages vis-a-vis the infant/toddlers, where the wait list tend to be a little bit stronger.

Jeff Silber, Harris Nesbitt.

Good afternoon, let me add my congratulations as well.

Thanks Jeff.

I'm going to go back to the gross margin line, just to get it clear from a seasonality perspective, we should probably see gross margins in the second half of the year be lower than they were in the first half, but they will still be up year-over-year, or be at a lower rate than we have seen in the first half, is that what you were saying?

Yes.

Okay, and what are you looking for in terms of gross margin goals for the year, and then over the long haul, I mean how sustainable are these kind of rates?

I think that the goals for this year are as, we had outlined at - - we outlined at the beginning of the year, I think an overall operating margin improvement of 20 to 40 basis points, which we have been outperforming the first half, and would see that the center margins declining as you say at a level, and the second half is behind, where we were at the first half. But I would say that overall with the operating income growing at 75 to 100 basis points, a majority of that improvement for the year is coming from center margins, because our overhead has stepped up a bit with our compliance spending, and the effect of that comes from better enrollment, better labor cost control, and mix of center opening. So, as a goal I think that gives you the fuel for our planners. Longer-term, we see continued leverage growth at the center margin line and re-attaining that at overhead, but again kicking up at the more sustainable level of 25 to 60 basis points year-over-year in the years going out beyond '05.

Okay great that's helpful, just a couple of quick mop up question. Can you give us in terms of the roughly 15% revenue growth in the quarter; if we strip out acquisitions, what was your organic revenue growth?

Mike I haven't stripped out acquisitions, they're prior the overall growth, I think. There are certainly the rate increases in the 4% to 5% range, enrollment growth as we cited is 1% to 2% and the remainder is new center adds.

And then next we come back into the wrap?

Yes.

The tax rate was a little bit lower than we expected, not dramatically, was there anything going on in the quarter that we should be aware of?

I think we have just got with us a bit more contribution abroad the slightly beneficial rate overseas is contributing.

Okay, and then finally one more, have you been disclosing your staff per student ratio, is that something you can you can give us color on how that's been trending?

Do you mean, the teacher staff?

I'm sorry, teacher per student?

Yes, it averages about 1 to 5. In a typical center you will have a mix of infants more intensive than that, toddlers in the 4-5 range and pre-schoolers in the 8 to 10 range per teacher, and so it works out to an average of about 1 to 5.

And that hasn't really been changing?

No.

Okay great, thanks. Congrats again.

Michael Lasser, Lehman Brothers.

Hi, good afternoon, another strong quarter. Given the acquisition activity over the past couple of quarters, is there any reason to believe that you may skew away from your historical balance between organic growth and acquisition growth, moving forward do you expect to maintain that 70%, 30% balance?

I still would tell you that going forward we would expect to see a 70,30, approximately 70-30 split between organic centers and acquisitions. I think we have to view the ChildrenFirst thing as a big anomaly with respect to its size as an acquisition, as it relates to what we see the go forward mix of new centers to be. We are very happy that the timing has finally happened so that this could become part of, we could come together with ChildrenFirst. But I think, if we were to take that out and look at the pipeline going forward, we still feel good about the outlook as it relates to organic growth. And more specifically with the rebound of the cyclical kind of clients, we are seeing you know the rebound of the more Greenfield type of centers whereby the development process takes longer, and frankly is a little more subject to a little bit of slippage and therefore a little tougher to predict in acquisitions the transitions of management. But that shouldn't be a problem, all that means is when you have a few centers, they'd go from one quarter to the next. I think that the organic pace of growth from our viewpoint, the outlook hasn't changed from what we were talking about in the past.

Looking at ChildrenFirst, the arrangements they have with their clients, are they similar to the cost plus centers that you have?

To break it down for you, of the 33 centers the children first certainly operates, 75% of them or 24 of them are for consortium centers, and in those consortium models they have anywhere from 15 to 50 clients who are buying spaces in those centers and those centers are P&L models and the revenue essentially is comprised of membership fees that clients pay on behalf of their employees, who use those centers. The other nine centers are a combination of either cost plus or fixed price contracts where ChildrenFirst earn the management fee, similar in fashion for the way our cost plus centers operate. And they tend to be for a single client or a real big single client anchor who might allow few other clients to buy some space.

How fast has this topline been growing in ChildrenFirst over the past few years, and is that a reasonable expectation for the backup segment of your business moving forward?

It is interesting because I think that because their model is comprisable new center sales and is the selling of memberships, the growth trajectory has a little bit different characteristic over the last several years. So it hasn't been as much new center growth as it has been filling in these memberships. And so, that has enabled them to improve their margins while having more modest topline growth. And as Dave mentioned, so it is in the, I'm going to be guessing here, it's in the 10% range or so overall. And in the view forward, there are a number of centers that are in their prospect and pipeline list that will afford both, that growth as new centers and then the continuation of the selling of the spaces to further the utilization, if you will, of the consortium. So, that's where the opportunity lies.

One last question but it is coming in two parts, have you seen any change in your employee turnover metric and/or any increase or decrease usage of temporary help?

We've been fortunate to continue to see, you know, our turnover at similar levels to what we've reported, a bit around less than 20% mark, and no-to-small increase in the (indiscernible).

Bob Craig, Leg Mason.

A couple of questions for you. Could you talk about branding issues with ChildrenFirst. Will you use that brand as you backup brand?

You know, Bob, we are under a month into the integration planning. So, I don't think we're in a position to comment. Really, one way or the other as to where we will head with it. I think one thing is for sure ChildrenFirst has a great reputation with employers around backup care. We think Bright Horizons has an equally strong reputation with employers too. So, we are going to give us some thought to how we bring that together, but we have a rich conclusion as to where we are going to have (indiscernible).

Does that make any sense to use them, as your consortium brand and to keep the Bright Horizons brand for all others?

Again, we are still trying to figure out how we can best, sort of represent ourselves and whatever way we go, one way or the other, I think it would be done with five as to how to be sure that we are getting, we are taking advantage of all the (indiscernible) which has been built up on both side.

Could you talk for a second, Dave about the sales cycle? You've mentioned in the past, I think there has been a little compression but just making up for the extension that happened back couple of years ago. Are you seeing any further compression even in certain end-markets?

I think we are seeing the tail end of the average cycle of 3 months to 2 years and we are seeing that. It has elongated towards to 2 years and we are seeing a comeback to its more normal levels that we saw prior to 2001. And I would say that probably the one thing that we are seeing is, we talked about this before, is the rebound in the more cyclical kinds of prospects, many of which, frankly, we were talking to prior to 2001and they had put their decision making around this on whole and it is nice to see them reenter to fill those prospects. Of course, we don't really consider them prospects unless they're really actively in the sales process. So, with one stay sort of put everything on a whole, they kind of a went dormant and then we would now re-engage with them and some of them comprise these up-tick of the 10% increase in early stage prospects that I talked about before.

Is there have been any challenges in any markets finding sufficient center staff?

No, I think we've always had some markets were that's more challenging than others. And I wouldn't say that there has been any major difference in that since the last time we've talked.

So, it is not really constrained to growth then?

No.

In the UK, have you -- could you touch on some competitive changes. Have you benefited from some of (indiscernible) problems, for example?

You know, there is (indiscernible) has been not that active on the employer's sponsored front from the viewpoint of trying to compete for the management of worksite centers. We haven't seen them as much as we've seen some other smaller providers in the UK. I think where we'll benefit is, we have some centers in the UK that are consortiums that rely partly on community enrollment. And I think, to the degree they have to change their pricing methodology. It may cause some parents where we have similar centers in the same catchment area, maybe to reconsider their choice and help us on the enrollment side. But, within the employers sponsored market that have had a real (indiscernible).

Last question and I'll turn it over but I don't know I have asked you this one before, not to beat the dead horse. But looking at the margin potential of the businesses is currently configured, may be you could give an update on the margin potential of each segment there is always and the impression with the cost plus models is 10% to 30% P&L 16 to 18, 17 to 20 (ph) 12 and currently 20, 25 backup. Are those numbers still valid or you are ready to increase a couple of those, especially front end of that?

Let me just kick it off and Dave can rein as well Bob does. The cost plus centers at this stage, the range that we are seeing the operating results there is more or like 12 to 14%. Our P&L centers are operating 17 to 20%. So, we have to move both of those up somewhat, and the schools we are seeing operating more in the 20 to 25% range on an average across the six schools that we have, and then you mentioned a backup, there is a range of performance there that varies between the managed centers and consortium model, but in our grouping there, the 25% is not a bad threshold.

Criss, we are ready for another question, if there are any.

Mark Hughes, SunTrust Robinson Humphrey.

Just wanted to confirm for ChildrenFirst, 25% gross margin and then 15% SG&A, is that right?

Yes, it's a little north of 25%, and around 15% correct of SG&A.

And that's before amortization or capital cost?

Right. That's just overhead.

Howard Block, Banc of America Securities.

Is there a seasonality in ChildrenFirst that might differ from your seasonality?

It's different, and there isn't really much seasonality at all, Howard, because of the nature of the membership, purchases in the consortium centers and then the managed centers that are operating more gratingly year around. There maybe a little bit more of summer camp revenue performance in the summer, but it's not notable that we, you know, in our diligence at this point. So, it's different from us in that regard.

And then in terms of the number of expansions again, Dave, do you happen know if those expansions were driven by the growth of the particular client in terms of their business and headcounts or just by their own increased commitment towards the childcare?

I think it was a combination, Howard, there -- it seems there is a growth in their own business or a growth in the demand of their current center, time because they have a waiting list that's pretty significant, and they want to be able to serve more working families there.

So, you don't even know anecdotally of the company acts. For example, their business is booming and as a result they are expanding their own head quarters and you have to get the other (indiscernible).

I wouldn't talk specifically about the 15 that are under development because in some cases clients don't like us to talk about that until that actually happen or it's actually done or either on their own communication schedule, but I can give you anecdotally some of the one that have already occurred in prior year and like for example singing, we ran a center for them for many years probably 15, 20 years in total, and they year before last doubled the size of their building really added on to their existing building and doubled the capacity of their center and instinctively because of the demand and the hiring needs and what they were doing at that site, and the need for more capacity, they want to add backup care room there, that would be an example. Sometimes we have relocations as we get a in Detroit, where they relocating from farms and hills to downtown Detroit, and in that process expanding the capacity of their center and because of the move into the intercity want to offer some different services that they hadn't previously offered. Those are some examples, then you have some smaller example like a consortium center we run in Connecticut for both community and some employers where there was a demand for school-age care and we simply added a -- we took more available space and added a 20 capacity school-age program in that particular environment because of the demand. So, really as Elizabeth mentioned before these could be doubling the capacity of the center, they could be because the client is moving, or it could be because of some uncovered need like school-age care or backup care and that drives the expansion.

If you could tell me -- I apologies clarifying something you have already said, but you said there was 50 backup center co-located in full-service centers?

That means that within under one roof there is both a full-service childcare center serving infants through preschools or kinder garden depending upon the size, and co-located in that facility is a dedicated backup room that serves children on an emergency backup basis, net that of second quarter.

Yes. So, those are all BFAMs.

So, those are all BFAMs, yes. And then, we operated our dedicated backup service. And so, the 70 we are talking about combined between ChildrenFirst and Bright Horizons are dedicated backup centers, free standing on full service care. Not to be confused with the 50 here, that's all located.

Okay, so using some high math, that’s 37free-tanding BFAM backups

38.

I thought it was 37, it looked 33, but okay.

It's just over 70.

And then, did you say you are going to close 15 in the second half of the year or 15 for the full year?

Full year.

Full year, okay. We have never talked about this in great detail, but typically or at least this year, what are the reasons for those centers to close even the five that closed in this quarter?

Yes, the reasons are really around the few things, and one, every year, we always look at the centers in which we have obligations or the contractionary or by lease in an extortion (ph) case where that's expiring and we were making a decision on whether or not we want to either close and relocate or close completely because the demographics have changed, the situation has changed, prior subsidies have changed whatever it is. And so, I would say that financial -- sort of financial underperformance is one reason why we would proactively close the center. In other cases, we become the victim of mergers and acquisitions whereby somebody merges with somebody else and inside it, one side is going to close and that side happens to have a child care center on it and that's something been a sort of reality for us forever when that happens. And then lastly, even if it is not a merger and acquisition, sometimes the situation changes, if that work site whether downside or for whatever business reason they decide that they no longer can validate having a center and then the clients makes the decision on it -- the sponsor makes the decision to close. And, really I would say that the reasons for the closures even thinking about the group that we expect to close this year will be just really divided equally amongst those three reasons I just talked about.

Okay, and then you said a net 60 for calendar '05. So that will be 17 year-to-date of BFAM, the 33 with ChildrenFirst, or another maybe 5 per quarter of net BFAM or gross BFAM?

I guess if I do the math, we are 17 now. We expect to be 60 plus for the year. So, there are ten incremental closures to have versus where we are now. It is the square root of that and --

Okay, I get 71 again. And then did you give the detail on the pipeline again I think it was 50 in the last quarter, did you update that?

Yes, we updated by saying that there are 50 plus in our pipeline.

And then a little bit, did you offer any specifics regarding the Sarbanes impact in the quarter? I recall hearing you say something about Sarbanes, but I missed any --

I didn't give any specifics except to say that the compliance costs are now basically in our SG&A rate. We had a charge last quarter that was about 400,000 that was a non-recurring catch up for the '04 expenses, and that didn't have any effect this quarter except sequentially it explains part of the decrease from Q1 to Q2. We would expect that the couple of million that we are spending on it is embedded now on overhead and it will take a little time to grow into some leverage there.

Jeff Silber, Harris Nesbitt.

Just a quick follow-up. In prior calls, you have given us your end user mix by client verticals, I was wondering if you could do that again?

Okay, the actual industry mix, bear with me one second.

While you are looking for that, just to reconfirm, in terms of when you increase tuition, I know most of it is at the beginning of in the year, but if I remember correctly, you do at some centers that you do in the September time frame, can you just reeducate us on that?

Actually Jeff the bulk of them happened in September followed by the beginning of the year, the second bulk of them, and then the rest are just too scattered to kind of point to any one time of year.

Great. I guess I was just (indiscernible) reading my notes.

It happens to all of us.

The easy answer on the end-user industry mix Jeff, is that it hasn't changed from our rounded 5% levels from first quarter to second quarter. I will read through them but there is no change. Financial services is 15%, technology clients is 10%, Healthcare and Pharmaceuticals is 15%, consumer products 5%, industrial/Manufacturing is 10%, Government and Education 15%, Office Park Consortiums 25%, and other including professional services is 5%.

Collin Macquee, Credit Suisse.

I was just wondering if you could give us an update on the Marin Day schools acquisition from back in the fourth quarter of '03. Had heard you talk about it a little while, and I know you were expecting some new locations there.

Yes, we're pleased with that -- just as a reminder to everybody we acquired Resources In Active Learning, the management company of the Marin Day Schools and we've gone through the integration process and they've become part of, you know, part of the Bright Horizons network and we feel really good about what that's added to us both in terms of some of the best practices from a program standpoint, but also equally as important some activity in Northern California. We have a few new centers that we expect to open that are in the pipeline that I would attribute to the addition of the Marin Day Schools to our network and also have a few people fund that organization, who are actively part of the early stage prospecting that are making a difference for us, particularly in the city of San Francisco. So, we feel good about how that's come together, we modeled -- we believe we did good diligence in the process and modeled the economics appropriately, and what we're seeing is no different than what we modeled during diligence. And from the growth standpoint, as I said it's solid.

Michael Lasser, Lehman Brothers.

Just a quick follow up regarding ChildrenFirst. Doing a quick math of SG&A margin of 15%, times the estimated revenue run rate gets you to about $5 million in absolute level of -- overhead to a net business, any sense for expected synergies or is that something that you don't care to comment on at this point?

What we are reflecting in discussing that is how we expect it will run in our combined operation Michael. What you' re referring to in the overhead levels -- how we look at it combined with that includes that cost efficiency that we would expect to see.

So, another of way of saying that is they are currently operating at overhead levels North of 15%, we expect that to be around the level that we think it's going to take the combined business in a way that still allows us to invest in growth.

George, Weatherby & Co

Two quick questions, and number one is that do you have incentive plans for the management of ChildrenFirst?

We're working George through the integration of the whole combined Company as we speak and so we're going to be working really hard as it relates to those who both wish to stay and those for whom it makes sense to stay and will be in a position to better talk about that obviously down the line. I think, what we are willing to talk about now, as Elizabeth just talked about a second ago, we do believe there to be a lot of very talented people there, who we think are going to be able to contribute to the growth of the combined organization and to the successful operations. We want to be able to have those folks come over the Bright Horizons Family and make a good contribution for many years to come. In other cases there will be folks that will move on and that will be handled obviously in a respectful way as well. But, we are still sorting that all out, and as we talked about before, we expect to have that all settled really by the time to close.

And do we know like -- are the majority of the management team members are agreeing to stay to help grow the business?

I think that we will be making some decisions on that again as I just mentioned over the next really short time period next month, month and a half and I think we will end up with right thing for the future which would be the best decision to grow the combined business.

I see and also as the backup centers becoming more than 10% of the total, do you have future plans to collocate some of the backup centers with your -- with the normal childcare centers in order to realize cost synergies?

We don't have any plans to collocate the existing dedicated backup centers, but I do think that we do see an opportunity, as we talked about earlier, there are 50 existing Bright Horizons centers that have dedicated backup collocated under one roof with a full service center. The majority of those are serving one single client, but there are few of them that are consortium (ph) models and we do see there are good opportunities to grow by adding both services under one roof in kind of a hybrid site offerings for client and -- but that is really no different than a model that we had and have been working on for a while. I do think that on the straight back up consortium model, we do still often see more opportunity for growth particularly in cities where they currently have centers that exist where additional centers make sense. And also new cities where they don't exist now. That model really has a lot of good application in urban work-site locations. I guess you could argue maybe a little more than what a full service center might have in terms of opportunity in those locations because of space constraints.

Thank you Chris. Chris if there aren't any more questions, I just want to thank everybody for being part of our call today and as usual we will be here for any more questions and we look forward to seeing you all soon.

There are no more questions at this time, sir.

Okay, thank you.

Thank you. Ladies and gentlemen that concludes our call for today. Thanks for joining, have a good day.