Strategic Education Inc (STRA) 2014 Q2 法說會逐字稿

Good morning, everyone, and welcome to Strayer Education, Inc.'s second-quarter 2014 earnings conference call. This call is being recorded. For those of you who wish to listen to the conference via the Internet, please go to strayereducation.com, where the call will be archived.

With us today to discuss the results are Robert Silberman, Executive Chairman for Strayer Education Karl McDonnell, Chief Executive Officer; Mark Brown, Executive Vice President and Chief Financial Officer;and Daniel Jackson, Senior Vice President and Treasurer. Following Strayer's remarks, we will open the call for questions and answers.

I would like to remind everyone that today's press release contains, and certain information on this call may contain, statements that are forward-looking and are made pursuant to the safe harbor provision of the Private Securities Litigation Reform Act. The statements are based on the Company's current expectations and are subject to a number of assumptions, uncertainties and risks that the Company has defined in the paragraph on forward-looking statements at the end of its press release, and that could cause the Company's actual results to differ materially.

Further information about these and other relevant uncertainties may be found in the Company's annual report on Form 10-K and its other filings with the Securities and Exchange Commission. Copies of the filings and the full press release are available online and upon request from the Company's investor relations department.

And now I'd like to turn the call over to Robert Silberman. Mr. Silberman, please go ahead.

Thank you, Ben, and good morning, ladies and gentlemen. Before I turn it over to Mark and Karl to run through our financial and operational results for the quarter, I just want to say on behalf of our entire Board of Directors how much we appreciate Mark Brown's dedication and stewardship as our CFO over these last 13 years.

As we announced this morning, Mark will be retiring March 1, 2015. He'll be replaced by Dan Jackson, our current Senior Vice President and Treasurer, who I believe most of you have met, but if not, you'll certainly get to know him over the next eight months. Karl and I will miss Mark, but we have tremendous confidence in Dan, whose 11-year tenure at Strayer includes stints not just in finance and strategic planning but also as a campus director and regional vice president of operations. And except for his tennis ability, Dan is a worthy successor to Mark in all respects.

Q2 was one of our strongest quarters over the last couple of years, both academically and financially. A lot of the initiatives we've been working on are starting to bear fruit, and I know Karl will provide more details on some of those specifics. But with that, Mark, do you want to run through the financials?

Sure, Rob, and good morning, everyone. I'll start with revenue. Revenue for the second quarter of 2014 was $112.7 million, a decrease of 15% from 2013. The decrease was primarily driven by lower enrollments, which were down 10% in our spring academic term, and lower revenue per student, which declined by 4.7%. The decline in revenue per student is consistent with our expectations as our lower tuition for new undergrads gets layered into our base.

Income from operations was $24 million for the second quarter of 2014, compared to $26.3 million for the same period in 2013, a decrease of 9%. Operating income margin was up 140 basis points to 21.3%, compared to 19.9% for the same period in 2013.

Net income for the second quarter of 2014 was $13.7 million, compared to $15 million for the same period in 2013, a decrease of 9%. Diluted earnings per share also decreased 9%, to $1.29 compared to $1.42 for the same period in 2013. Diluted weighted average shares increased slightly to $10,623,000, from $10,535,000 for the same period in 2013.

Turning our attention to the results through the first half of the year, revenues for the six months ended June 30, 2014, decreased 15% to $229 million, compared to $269 million for the same period in 2013, principally due to lower enrollment, which was down on average 12%, and lower revenue per student, which was down about 3%.

Income from operations was $49.9 million, compared to $56.2 million for the same period in 2013, a decrease of 11%. Operating income margin was up 100 basis points to 21.8%, compared to 20.8% for the same period in 2013. Net income was $28.5 million for the first half of 2014, compared to $32.2 million for the same period in 2013, a decrease of 12%.

Diluted earnings per share was $2.68, compared to $3.01 for the same period in 2013, a decrease of 11%. Diluted weighted average shares outstanding decreased slightly to $10,602,000, from $10,693,000 for the same period in 2013.

At June 30, 2014, the Company had cash and cash equivalents of $136 million. We generated $45.2 million from operating activities in the first six months of 2014. That compares to $51.6 million during the same period in 2013.

Capital expenditures were $2.3 million for the six months ended June 30, 2014, compared to $5 million for the same period in 2013. We still expect our CapEx to be in the neighborhood of $10 million on a full-year basis.

Regarding our credit facility, we had $120 million outstanding on our term loan and no outstanding balance under our revolving credit facility at June 30, 2014.

Finally, for the second quarter of 2014, our bad debt expense as a percentage of revenues improved to 3.2%, compared to 4.3% for the same period in 2013, as Karl's team did an outstanding job with collections this quarter.

Rob?

Thanks, Mark. Karl, do you want to hit the operational highlights?

Sure. Thank you, Rob, and good morning, everyone. First, just a couple of comments on the second quarter. We were very pleased with the 140-basis-point gain in our operating margin, which follows last quarter's 40-basis-point increase. Those increases mark the first time in more than four years that we've grown our operating margin on a year-over-year basis in successive quarters, which clearly is an important milestone for us.

The improvement in our instructional and educational support line is primarily the impact of our restructuring, but as Mark just indicated, it also includes significant savings from our bad debt expense. We also saw a substantial decrease of nearly 20% in our marketing expense per new student, as we were able to generate some efficiencies in our various advertising channels.

I also want to reiterate that we remain on track to achieve the full $50 million of operating expense savings we targeted for 2014, notwithstanding the fact that we have several thousand more students than we anticipated when we finalized our restructuring plans last year.

Turning to our enrollment results for the summer academic term, our total student population decreased 6% to 36,403 students, representing the fourth consecutive quarter that our overall enrollment variance has improved. The improvement was driven by both new students, which grew 2%, or 8% excluding the 20 Midwest campuses that we closed, as well as through higher student retention as our continuation rate improved 220 basis points from last year, which is nearly double the increase we had last quarter.

The improvement in retention is a result of our ongoing efforts to improve the student experience, including our focus on student engagement. In addition, though, based on improvements we've seen in first-year cohort continuation rates, it's also clear that the graduation fund is beginning to have a favorable impact.

Our national accounts continue to outperform the broader university's results. New students from national accounts grew 22%, which is up from last quarter's 19% increase, and total enrollment increased 8% year over year, and that represents the fourth consecutive quarter of year-over-year growth for the national accounts segment.

Also for the summer term, we implemented an 8% tuition increase for new students attending the Jack Welch Management Institute, and new JWMI students increased 66%, while total JWMI enrollment grew 51%. JWMI's continuation rate and net promoter scores remain the highest in the university.

One quick point on student mix -- graduate students continue to comprise 36% of our total student population, which is unchanged from last quarter.

Lastly, although it is not our practice to provide forward-looking guidance on our enrollment, we do recognize the implementation of our graduation fund and reduced undergraduate tuition have made it more difficult to model our future performance. However, based on some learnings that we've gathered over the last three to four quarters, we feel that we can provide you now with some additional clarity.

Last quarter, I indicated revenue per student would decline 4% to 5% on a full-year basis for 2014, and when you include our summer enrollment results, I can reiterate that range continues to represent our best forecast. Assuming our current enrollment trends continue, we would expect a similar 4% to 5% decline in revenue per student next year.

That decline, however, would be offset by year-over-year growth in total enrollment, which, if current trends continue, would likely occur by the second quarter of 2015, followed by revenue growth two to three quarters later. That would result in revenue for 2015 being down in the low single digits -- again, assuming our current enrollment trends continue.

Overall revenue for the Company.

Yes. And with that, Ben, we'd be happy to take any questions.

(Operator Instructions). Jason Anderson, Stifel.

Congratulations, Mark, and congratulations, Dan. Look forward to working with you. On the cost reductions, it seems like you're running at a greater pace than the $50 million. Am I seeing anything wrong there, or is it -- should we look for this kind of run rate and the decline in operating expenses through the rest of the year?

There were a couple of unique opportunities to generate some efficiencies, Jason, in the second quarter. Generally, we go into every quarter planning and assuming that we're going to spend our full budgeted marketing dollars, and this particular quarter, our teams were, really on an opportunistic basis, able to generate some efficiencies. Those may or may not occur in future quarters. Again, our plan is to spend our full budget.

We were pleased, as Mark noted, with the strong collections we had with bad debt, and I think that's really a function of the quality of students that are matriculating into the university. We think the bad debt is probably within a reasonable range of where it would run. It will continue to bounce around a little bit. So I'm not sure that the run rate in the second quarter represents a full-year opportunity to reduce expenses sooner, but, again, to the extent we're able to get efficiencies, we always look to do that.

Yes, and the other thing I would add is we undertook this at the point last year where our enrollment had been shrinking, frankly, for a couple of years, and we delayed doing this for a while, and so when you do end up essentially resizing the university around a lower enrollment base, there's obviously some opportunities.

But as Karl suggested, we're now looking slightly over the horizon to a situation where that enrollment may indeed by growing. So, our focus is on academic quality, and the cost structure tends to be a secondary derivative from that. We're comfortable with the university that we've built here and our ability to teach students well. So the numbers I think will, as Karl said, gyrate around that $50 million run rate.

Okay, and then just a little more on your color there on the 2015 -- I believe you said total turning positive in 2Q of 2015. I mean, you kind of said it, you kind of didn't, but -- or we should assume the kind of trends we're seeing here, that's what's baked into that assumption either on the continuation rate as well as the new?

Yes, when I say that based on our current enrollment trends continuing, that would represent the trends that we've seen in new students as well as retention. But as I said, it assumes that those trends do, in fact, continue.

Right, and there's not an acceleration happening maybe towards the end of this quarter or early into the current quarter?

Jason, we don't comment on future enrollment results. I mean, the students enroll when they enroll. And we're just not in the business of trying to manage it or capture it from the standpoint of producing a certain quarterly result. What we have tried to do over the last 13 years is, because the model can be mathematically fairly transparent, is just provide you with a set of inputs to say if this happens, this is what it will look like.

When we introduced the graduation fund last summer, we introduced a variable that we just -- because we hadn't used it before and it can vary within the quarter, in our judgment, made it not appropriate to provide -- to essentially pre-announce our quarterly results. And so what Karl was doing here is providing mathematical clarity, and you should be able to somewhat predict, varying up or down from that, based on the enrollment results. But it's not a prediction of future enrollment results.

Understood. Thanks for all the color. I appreciate it.

Sure.

Sara Gubins, Bank of America Merrill Lynch.

It sounds like the pricing activity and scholarships are beginning to have some of the impact that you were hoping. Is the plan to kind of stick with the current approach, or do you see any changes in the way that you would think about scholarships or tuition levels?

Well, first, on the graduation fund, Sara, we always said that we thought it would take at least a year before we would start to see some impact from the graduation fund because it will take, obviously, some amount of time for students to begin earning free classes. And as I said, we are seeing some improvements in what we think of as a first year progression of new students as they enroll, so we definitely plan to keep the graduation fund.

And when we reduced the undergraduate tuition for new students, again, that reflected really a several-year series of tests on tuition pricing. And the point that we landed on I think represented the consensus within the organization that that was the tuition level that was needed to remove what was becoming a barrier from any new students. And so we're confident that that's now at the right level as well.

And the other thing I would say, Sara, is that at the undergraduate level, it's not a scholarship. We've reduced our undergraduate tuition. A scholarship in what is essentially an entity that is owned by a profit-making entity is nothing more than a tuition discount. It has an academic name, but that's just essentially the effect. Our view was rather than do that sort of tactically and sporadically to try and drive demand, that we wanted to have a tuition level for the undergraduate student which was relevant and commensurate with the economy that we are operating in and doesn't seem to be getting a whole lot better. It's firming, but it's not, I wouldn't say, accelerating.

So we're quite comfortable with that undergraduate tuition level. And the graduation fund is truly a retention-oriented, graduation-oriented incentive. And as Karl said, it's starting to have the impact that we would expect it to have.

Great. And then just switching gears a little bit, most of the campuses that you have closed are now seeing students studying online. I'm wondering if, given that move, if you think that there is potential for further campus closures or if you've now done the bulk of them in addition to the ones that you've already announced?

No, Sara, we have no plans to close any additional campuses and, in fact, feel that the campus network that we have is an important part of being able to offer the students the flexibility to either attend online or on ground.

Okay, thank you.

Sure.

Jeff Silber, BMO Capital Markets.

I just wanted to drill down a little bit on the new student trends. Did you see any difference between your graduate and undergraduate students and also for those students that attend either at your campuses or online?

Jeff, I don't have the online/on-ground breakout in front of me. I believe that our overall graduate students declined in the low-single digits on a year-over-year basis.

He's asking about new.

Yes, I'm sorry, that's what I meant, new graduate students. And so undergraduate would have been a little bit better.

Okay, great. And just switching gears to the Jack Welch Management Institute, did you say you implemented an 8% tuition hike?

We did, yes.

Okay. It just sounds kind of high. Can we just get a little bit more color why 8%?

Well, our view is that the JWMI MBA program is a premium brand, and we think it competes well across the full spectrum of MBA programs that are available to students. The feedback from our students has been incredibly positive, including the percentage of students who indicate that they're getting salary increases and-or promotions. The net promoter score is very high and among the highest of any industry, frankly, that we look at when we benchmark our net promoter score data. And so the pricing reflects the fact that we see it as a premium brand and we see it as a program that's adding tremendous value for students.

And Jeff, I'd also add although it's a sizable increase, the overall price of the program is still significantly below the programs we think we compete against at traditional universities in their executive MBA programs. So it's -- the size of the increase shouldn't confuse you as to the overall value of that product vis a vis the traditional university executive MBA programs, which for these students we compete against.

Can you remind us roughly what that price is and how many students you have?

It's about $34,000 for the program, and they ended the quarter with just under 700 students.

Okay, great. Thanks so much.

Sure.

Corey Greendale, First Analysis.

And my congratulations as well to both Mark and Dan. Just a couple of questions. Since the model is relatively mathematical, [I thought it'd be nice if you] had some thoughts on 2015. Could you provide some thoughts on the cost structure? Do you see that kind of marginal revenue decline in 2015, what that means for operating margins?

Well, I would expect in a period where we eventually are getting to revenue growth on a year-over-year basis, Corey, that we would begin to see operating margins grow. We've done a good job this year on our costs. We baked in $50 million as a result of the restructuring, and as I said in my comments, we've done that notwithstanding the fact that we have several thousand more students. So those increased instructional variable costs have been offset with efficiencies we've found in other areas. So my view on next year's expense base is, barring large changes in enrollment in future quarters, we'd try to keep our expenses relatively flat.

And then, Corey, I should emphasize that's with regard to the base university. There are initiatives we're looking at, which would be investments, some of which would run through the operating expense line and could have an impact on margins in much the same way in the past as we opened new campuses would have an impact on margins. So it's -- what Karl's described is absolutely accurate with regard to our university, but it shouldn't be taken as a indication that we couldn't have varying margins based on the level of investment that we may have in other areas.

Understood, and I appreciate that clarification. And then on the bad debt, I just want to clarify. I think you said that a similar range should be sustainable. It was meaningfully lower than it has been this quarter So what are you saying -- you think that a low 3% range is sustainable, or more like the 4% range?

Yes, I think it'll be in the 3% to 4% range.

Okay. And at the risk of asking perhaps a slightly silly question, to what do you attribute the real -- the strong results in the national accounts business? And specifically, I was just wondering -- I believe there were reports that when the Arizona State Starbucks thing happened, that Starbucks eliminated Strayer from their program. Can you verify that that's right, and are you expecting any material impact from that?

There will be no material impact. We've really very much enjoyed working with Starbucks. We have a few hundred of their students and have had a few hundred of their students over the last several years.

I think one important note on the Starbucks Arizona State arrangement is the Starbucks benefits really only begin to apply and kick in for their employees in their third and fourth year, their junior and senior year, and they essentially get no benefit in their first two years, their freshman or sophomore year. And when we've done just some comparisons, it would appear that our negotiated corporate discount with Starbucks would be more affordable for their employees than the discount that's being offered by Arizona State, so I suspect we may continue to serve some of their employees.

They notified us that for the purposes of their employees participating in this benefit on a go-forward basis, they would allow the students to remain with us through 2015. But as I say, it wouldn't surprise me, given the structure of that program, that we would continue to serve some of their employees in the first parts of their college experience.

And then the other part of your question, around the strength of national accounts, I just attribute it to the fact that it's a very strong area of focus for us. I think we're uniquely positioned in the way that we manage those accounts in that our campus network really allows us to activate and deepen those relationships in a disparate fashion, so that we've got 80 different sets of ambassadors, if you will, in these communities working with our national account partners and forming these relationships.

We did also add seven new accounts in the last quarter, so it's -- I think it's just a focus of the fact that we put a great deal of emphasis on serving those students well in the classroom and then building those relationships through our network of campuses.

And it's brand. I mean, it's a history. It's 100 years of these relationships and the performance of our alumni in those organizations.

Got it. And then just one last quick one from me and then I'll turn it over. You're building your cash at this point, and since you pulled back on the dividend and opening new campuses and purchasing shares, can you just give us your updated thoughts on uses of cash?

Sure. As Mark mentioned, we've, actually two quarters ago, went to a net cash positive position, offset our debt completely. We added to that this quarter. In general, our view has always been that the best use of cash is investing in the university because we think over time, that is the highest return we can generate -- that will create the highest return we can generate for our owners' capital.

Cash which is excess to that, we've had a history of returning that to owners in what we hope is the most value-enhancing way, either through share repurchases or dividends. We went into a position about 18 months ago of being in a debt position, and that debt position -- that was never intended to be a permanent change to the capital structure. I'm not sure that really makes the most sense for an academic institution.

And so our intention was always to work our way out of that, and as we've worked our way out of it, we've continued to make investments in things like the Jack Welch Management Institute and other growth initiatives. So our view going forward is to basically, each quarter, look at our cash position through that same prism. Can we use the capital in the business? And if not, do we have sufficient liquidity to deal with any sorts of future opportunities? And beyond that, cash which is truly excess, we return it to owners in what we hope is the most value-enhancing way.

Great. Thank you.

Thank you, Corey.

Peter Appert, Piper Jaffray.

So Rob, just following onto your last comment, does that imply that perhaps we could see a return to new campus openings at some point in the next 12 months maybe?

I don't know about the next 12 months, Peter, because one of the things that we said a year and a half ago was we had two concerns with regard to employing capital in new campus openings. One is the overall health of the economy. I don't think there's any doubt that it's firming for our target students, but it's firming at a pretty low base. You have to ignore headline unemployment numbers. They're completely meaningless. It's labor force participation, which really matters, and particularly labor force participation for individuals with a high school degree and no college degree. And that remains very, very low, historically low -- 50-year low.

And then the second issue was clarity on the regulatory side. We're not quite there yet, and until we get both of those things on firmer ground, I think the Board has a relatively skeptical view as to new campus openings. And I doubt either of those will be resolved over the next 12 months. If for some magic-wand reason those did happen, then we'd certainly -- we would look at it. But I think realistically it's probably a little farther out.

Got it. And given the success you've had with the Jack Welch initiative, does that increase your appetite maybe to explore M&A opportunities?

Well, we've always had an appetite. We just have never found targets that made sense. And we're constantly looking at things. The biggest difficulty is that education is a human capital, culturally-based activity, and in general, M&A doesn't work well -- or at least in my experience, hasn't worked well in those sorts of activities. And so we're very careful as we look at that.

But there are others who have been successful with acquisitions. Certainly, the Welch Institute has been a -- from our standpoint, a real homerun. And so we'll continue to look at those, but probably with the same level of scrutiny that we have in the past.

Thanks. One other thing, Rob or Karl. Could you talk about how you're managing marketing expenses, how we should think about marketing expenses on a go-forward basis? It's impressive, you're obviously showing (inaudible) growth as you're bringing those numbers down pretty substantially. Is that a new trend, do you think?

Well, at the beginning of the year, our view was that we were going to spend roughly the same amount in 2014 as we did in 2013 on marketing. And through the first half of the year, we've been able to find some efficiencies that we didn't necessarily plan for but, as I said, were sort of opportunistic in nature.

And so for the back half of the year, our plan is to continue to spend what we budgeted, which on a quarter-by-quarter basis, should be roughly flat with the prior year. znut there may or may not be opportunities to get some efficiencies in some of the channels we use to advertise.

These efficiencies just -- it's not a function of significant shifts in mix. It's just you're buying better, you're finding better deals?

It's a combination of things. It's reallocating dollars from one campaign perhaps to another. We have an internally-based team that does our marketing mix analysis, and they've done a great job figuring out the best use of those dollars given the context of what our purpose is, which is just trying to build as high levels of awareness on the brand that we can.

Also, Karl, isn't it the case that as our corporate alliance partners increase as a mix of the share, your marketing costs go down?

That definitely helps.

I see. Great. Thank you.

Thank you.

Trace Urdan, Wells Fargo Securities.

So my question is going to be pretty venal here following on the last question. If you guys are going to spend the same amount of money on marketing that you spent in the back half of last year, the question I have is if you're going to maintain that $50 million cost reduction run rate, where would we expect to see -- would we expect to see sequential savings, then, on the G&A line from what you've put up in the first half of the year in the second half of the year? Or are we looking primarily to the instructional cost line to see sort of the balance of what you would need to do in order to hit the $50 million goal?

I think it would be in the instructional and educational support line, Trace, not the G&A line.

The G&A, we're kind of at a run rate, and marketing we can look to last year for guidance, and so the difference will be made up in instructional costs?

That's correct.

Correct.

Okay, thanks. That very, very high-level insightful question is all I have. Thank you.

And actually, Trace, at its simplest level, most of that is the fact that there are 20 less campuses, too.

Yes. No, I get the concept. I just was sort of working on the math. Thank you.

Sure.

Suzi Stein, Morgan Stanley.

First of all, congratulations to Mark and Dan. Just a quick question on CapEx. I guess at $10 million, it looks like you're planning to come in at the low end of the range that you gave a while back. I'm just wondering if this is kind of a new normalized level given the new structure of the business, I mean, assuming that there are no campus openings planned, or is there a point where you'll need to reinvest I guess either in technology or in infrastructure? I'm just trying to think about how to model this longer term.

Yes, Suzi, as we had said before, the $10 million to $12 million we think is a good estimate for maintenance CapEx. And as you pointed out, we do believe we'll be at the low end of that, probably in the $9.5 million to $10 million, so it's largely timing. Obviously, if we were to undertake a large infrastructure improvement or systems overhaul or something like that, that would probably be outside of that range. But we feel pretty good about the $10 million to $12 million, kind of spending that on an annual basis for the foreseeable future.

Okay. And then what about share repurchases? Where do those fit in just in terms of your priorities in terms of deploying cash?

Well, Suzi, it is a way to return excess capital to owners. And what we've done in the past when we've felt we had truly excess capital, capital which is excess to our needs in the business, is look at both share repurchases and dividends. In the past, we've been a common dividend and a special dividend payer, as well as share repurchases.

So the share repurchases are done -- in our judgment, they should be done only in those circumstances where the market is giving you the opportunity to purchase the shares at such a discount to the intrinsic value that we can take that optionality away from the owner, because if we pay them a dividend, they can decide on an after-tax basis to buy more shares. It's more of an art than a science to pick that intrinsic value. And I would say that in hindsight, my track record on that might not have been perfect, but it's the same discipline, it's the same concept, and when we have that excess capital, that's how we'll look at it going forward.

Okay, great. Thanks for taking my questions.

And by the way, everybody shouldn't congratulate Dan yet. He hasn't really done anything. Let's wait until he does anything.

(Operator Instructions). Paul Ginocchio, Deutsche Bank.

Hi, it's Adrienne Colby for Paul Ginocchio. I was wondering if you could comment -- based on your enrollment results for spring and summer, is it your sense that the overall demand environment is improving?

I think that, as Rob alluded to, we're definitely seeing some firming in the broader macro economy. And I would also say through the first half of the year the level of demand that we've seen has been improved and up on a year-over-year basis. So the combination of those would lead me to believe that the environment is getting a little bit better.

Great. Thanks. And then I was wondering, from a housekeeping standpoint, there was a bit of a step down in depreciation and amortization in the quarter. Was that just a one-time sort of thing, or should we expect it to be at that lower level going forward?

Well, certainly it's a step down relative to the prior year, because as you know, we undertook a rather large restructuring in the fourth quarter, but it's -- I would expect the current quarter to be a reasonable run rate for the balance of the year.

Thank you.

Tim Connor, William Blair.

Yes, based on what you said, low-single-digit revenue increases for the full-year 2015 if current trends continue, and then a 4% to 5% decline in revenue per student, that seems to imply that total enrollment is going to grow in the high-single digits or at least mid-single digits next year. I'm trying to understand how you're going to keep the expense base flat on that type of enrollment growth.

Actually, I was going to clarify that. I said overall revenue in 2015 would be down, not up, in the low-single digits.

Down low-single digits, okay.

But your point is -- your question is well put regardless, and it's an important one. And that is that over the last couple of years, we have seen a negative impact of what we consider to be a relatively high fixed-cost business. And the reason is that because when you're providing an academic product, the core determinant of that is the quality of your faculty. And we add faculty slowly. When we were in a much more benign demand environment, and some of our peers were growing at much, much higher rates, we limited our rate of growth to make sure that we could expand the university faculty and its oversight in a way that we could guarantee very strong levels of academic achievement.

And therefore, you're reluctant -- or we are reluctant to reduce that precipitously or abruptly when you have a downturn in enrollment. So over a several-year period, we had diminutions in our operating margin as our enrollment went down, our revenue went down, but our operating income went down at a much higher rate because we were not cutting those expenses.

We got to a point last year where we were essentially running a university that was built to educate 70,000 students, and we had, what, Dan, 35,000, 40,000 students. And so we made a pretty significant structural shift and brought that cost base down. When we did that -- we've remained invested in the faculty and in the academic quality, and because of that, we essentially -- we have empty seats in classrooms. And as you fill up those seats, it is a very high incremental operating margin per student.

And so the answer to your question is we would expect to have our cost structure stay relatively the same and be able to handle significant more students because we have unused capacity in our academic institution at this point.

What are the -- what's the level of incremental margins on kind of each new student?

Well, it's relatively high if you've got an empty seat in the classroom. It's like a seat on an airplane.

And what are you seeing in the Midwest in terms of conversion rates now that you've distanced yourself a couple quarters from the campus closures? Are you still seeing some positive impact of having campuses there, or is it similar to other regions in the country where you've never had campuses?

Well, the retention of those students that we had when we announced the closures is basically at the level we expected. And we do continue to get some new students in those markets who are taking their classes 100% online. It's down, obviously, but we still continue to get students despite the fact that we've pulled all of our advertising dollars out of those markets to repurpose them in other markets.

I would say it's probably similar to other markets where we don't have campuses.

Yes.

Maybe slightly better, but that's fair.

Okay. And the average revenue per student phase in over the next six quarters, you've been very specific about it. At what point would you get to a point where revenue per student could grow, either through tuition increases or just a full phase in of the new pricing structure?

I think that the bulk of the declines will happen this year and next year. And again, it depends on many factors, including the rate at which new students enroll and the mix between undergraduate and graduate students and so forth. But as I said, what we've seen and what we would expect is that we would grow our overall enrollments, again, based on our current enrollment trends continuing, by the second quarter of 2015. And based on what we've seen, we would see revenue growth follow that two to three quarters later. Which means by the time you get to 2016, that would be the point where the change in our overall enrollment on a year-over-year basis would become a good proxy for the change in revenue itself.

And also, Tim, I think it's fair to say that this is a different business than it was four years ago. I don't expect to see increases in revenue per student from the undergraduate student. I think that the cost of education has become such a large issue in society and in the economy as a whole, that it makes more sense to have a undergraduate tuition which is set, which is relevant to the student, which is competitive with other choices that they have, and that the days of real increases in tuition just being passed through just -- I don't see that over the foreseeable future.

At the graduate level, not just at the Jack Welch Management Institute, but our -- you have to look at the relative price of our programs versus the ones that we compete against and the ones that we hold ourselves up to academically. We're still quite a bit below those. So there may be some increase in tuition over the next five or 10 years at the graduate level. I wouldn't plan on it on the undergraduate level. I just don't think it's realistic.

Okay, thank you. And then final one for me -- you mentioned some firming in the macro economy. So do you think there's -- do you think the business is largely cyclical at this point based on what you're hearing from students coming in or the current enrollment base?

Well, if you go back many, many years and you read sort of the debates about this and the discussions, for a while many of the analysts, many of the investors and managers talked about this as a countercyclical business. In my judgment, it's never been countercyclical for a regionally accredited, first rate academic university because the cost and the time commitment of going back to school as a working adult is such that if you are unemployed, if you're not in -- or you're very, very, very worried about your employment, you're just not going to make that commitment.

And so I think the best way to think about it is within a -- it's cyclical within a band. You get below a certain level of economic impact and it's very, very cyclical. And we've had that, I think, since basically mid-2009 on. In 2010, there was a bit of inertia that was flowing through the system, but the wall for just about everybody was the fall enrollment of 2010.

If you get well above that, in a very, very confident economy but one which is shifting from a manufacturing base to a knowledge base, I think you'll get cyclicality on the top side there. Within that, it tends to be sort of an a-cyclical business, and we haven't quite, I think, as an economy reached the level -- we're at the bottom of the floor, if you will, that gets you into that a-cyclicality.

We're still, I think, somewhat cyclical on the down side, and as labor force participation rates gain, as employment grows -- which I don't know when that will happen, by the way. I'm not predicting that. But I just think theoretically, if that happens, you'd get it back into more of an a-cyclical environment, at least for, as I said, regionally accredited working-adult-focused full-fledged universities.

Thanks, guys.

Thank you.

Sure.

Jeff Volshteyn, JPMorgan.

First, could you share a little bit more color on the trends in new enrollments and continuation rates by the area of study?

Well, the trends in continuation rate are pretty broad. We've seen them both at the graduate and undergraduate level and really across most of our programs. I would say that IT has been particularly strong, but we've seen increases really across the board. And new students, as I said in the opening remarks, our national accounts continue to do very well, and with the firming of the economy that we've talked about today, the unaffiliated undergraduate student has started to show improvement as well.

That's helpful. And then now that the Jack Welch Institute is kind of growing a little bit faster, as we learned today, could you just update us on how long do students stay in the program based on your experience, what percentage of revenue the organization is as a percentage of total, and if there's any sort of seasonal trends that are different from the main university?

We haven't really seen any seasonal differences. The revenue -- the percent of revenue that's coming out of JWMI is relatively small. As I said, it's less than 700 students. But it's showing really strong demand, and as I say, their total enrollment grew 50% in this quarter. So we see it as a long-term investment. We get very strong feedback from students. JWMI's net promoter score is in the 70% range, which competes well with best-in-class companies across the US. So we think it's an important part of our future growth for sure.

Thank you. That's very helpful.

Thank you. And with no further questions in queue, I'd like to turn the conference back over to Mr. Silberman for any closing remarks.

Thank you, Ben, and thank you, ladies and gentlemen, for participating. We'll look forward to talking to you in October. And if anyone has any questions, please follow up with Mark or Dan directly. And as I said, we'll look forward to talking to you in October. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program, and you may all disconnect. Have a great rest of your day.