The Company has an agreement with MATCO Tools, whereby MATCO will provide the Company, on an Advance Commission Basis,advance commission basis, credits in MATCO BrandedMATCO-branded tools, tool storage, equipment, and diagnostics products. The CEO of the parent Companycompany of MATCO is considered an immediate family member of one of the Company’s board members. The Company’s payable balances from this third party was immaterial at JuneSeptember 30, 2016 and 2015. Management believes that such transactions are at arm’s length and on similar terms as would have been obtained from unaffiliated third parties.
On November 1, 2016, the Board of Directors approved a plan for the Company to teach-out the Green Valley, Nevada and Center City, Philadelphia campuses. The teach-out of the Green Valley, Nevada campus is expected to be completed in the fourth quarter of 2016. The teach-out of the Center City, Philadelphia campus is expected to be completed by the second quarter of 2017. As of September 30, 2016, both the Green Valley, Nevada and the Center City, Philadelphia campuses financial results were included in discontinued operations on the statement of operations and held for sale on the statement of financial position.
| Item 2. | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
The following discussion may contain forward-looking statements regarding the Company, our business, prospects and our results of operations that are subject to certain risks and uncertainties posed by many factors and events that could cause our actual business, prospects and results of operations to differ materially from those that may be anticipated by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those described in the “Risk Factors” section of our Annual Report on Form 10-K for the year ended December 31, 2015, as filed with the Securities and Exchange Commission (the “SEC”) and in our other filings with the SEC. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. We undertake no obligation to revise any forward-looking statements in order to reflect events or circumstances that may subsequently arise. Readers are urged to carefully review and consider the various disclosures made by us in this report and in our other reports filed with the SEC that advise interested parties of the risks and factors that may affect our business.
The interim financial statements and related notes thereto filed in this Form 10-Q and the discussions contained herein should be read in conjunction with the annual financial statements and notes included in our Form 10-K for the year ended December 31, 2015, as filed with the SEC, which includes audited consolidated financial statements for our three fiscal years ended December 31, 2015.
General
Lincoln Educational Services Corporation and its subsidiaries (collectively, the “Company”, “we”, “our” and “us”, as applicable) provide diversified career-oriented post-secondary education to recent high school graduates and working adults. The Company, which currently operates 30 schools in 15 states, offers programs in automotive technology, skilled trades (which include HVAC, welding and computerized numerical control and electronic systems technology, among other programs), healthcare services (which include nursing, dental assistant, medical administrative assistant and pharmacy technician, among other programs), hospitality services (which include culinary, therapeutic massage, cosmetology and aesthetics) and business and information technology (which includes information technology and criminal justice programs). The schools operate under the Lincoln Technical Institute, Lincoln College of Technology, Lincoln College of New England, Lincoln Culinary Institute, and Euphoria Institute of Beauty Arts and Sciences brand names. Most of the campuses serve major metropolitan markets and each typically offers courses in multiple areas of study. Five of the campuses are destination schools, which attract students from across the United States and, in some cases, from abroad. The Company’s other campuses primarily attract students from their local communities and surrounding areas. All of the campuses are nationally or regionally accredited and are eligible to participate in federal financial aid programs by the U.S. Department of Education and applicable state education agencies and accrediting commissions which allow students to apply for and access federal student loans as well as other forms of financial aid.
In the first quarter of 2015, we reorganized our operations into three reportable business segments: (a) Transportation and Skilled Trades, (b) Healthcare and Other Professions, and (c) Transitional which refers to businesses that have been or are currently being phasedtaught out. In November, 2015, the Board of Directors of the Company approved a plan for the Company to divest 17 of 18 of the schools included in its Healthcare and Other Professions business segment. Then, in December 2015, the Board of Directors approved a plan to cease operations of the remaining schoolsschool in the Healthcare and Other Professions segment, which is located in Hartford, Connecticut. That schoolConnecticut, and which is scheduled to close in the fourth quarter of 2016 and has been included in the Transitional segment as of September 30, 2016. Implementation of the plan would result in the Company’s operations focused solely on the Transportation and Skilled Trades segment. This divestiture marks a shift in our business strategy willintended to enable us to focus energy and resources predominantly on Transportation and Skilled Trades though some other programs will continue to be available at some campuses. The results of operations of the 17 campuses slated for divestiture are reflected as discontinued operations in the condensed consolidated financial statements.
As of June 30, 2016, we had 11,417 students enrolled at 30 campuses in our programs (7,041 students enrolled at 13 campuses that are included in continuing operations).
Subsequent Events
On July 1, 2016, New England Institute of Technology at Palm Beach, Inc. (“NEIT”), a wholly-owned subsidiary of the Company, entered into a purchase and sale agreement (the “WPB Sale Agreement”) with School Property Development Metrocentre, LLC (“SPD”), pursuant to which NEIT has agreed to sell to SPD the real property owned by NEIT located at 2400 and 2410 Metrocentre Boulevard East, West Palm Beach, Florida, including the improvements and other personal property located thereon (the “WPB Property”) for a cash purchase price of approximately $15.9 million. The
As a result of the WPB Sale Agreement, contains customary representations, warranties, covenants and conditionsthe Board of Directors approved a plan to closing for agreementsteach-out certain programs at the West Palm Beach, Florida campus which is expected to be completed in the first quarter of this type.2017. The operations related to these programs have been included in the Transitional segment as of September 30, 2016.
On September 1, 2016, the Company received notification of termination of the WPB Sale Agreement from SPD pursuant to the terms of the WPB Sale Agreement.
Concurrently with the closingAs of the sale of the WPB Property and pursuant to the WPB Sale Agreement, NEIT will enter into a short-term lease agreement (the “WPB Lease”) with SPD under which NEIT will lease back the WPB Property for continued use as a schoolSeptember 30, 2016, we had 12,855 students enrolled at 30 campuses (7,863 students enrolled at 13 campuses that are included in order to allow the teach-out of currently enrolled students. The monthly rental obligation under the WPB Lease is $100,000 plus the direct payment by NEIT of all real estate and other taxes and utility charges assessed against the WPB Property. The term of the WPB Lease will run from the closing date through March 31, 2017, subject to extension at the option of NEIT for three additional months through June 30, 2017. Upon the closing, as required by the Company’s credit agreement with its lender, the Company will repay, from the net cash proceeds of the sale, $10 million of the principal amount of its term loan, plus a $.5 million prepayment premium and accrued interest on the amount repaid. The Company expects that, assuming all conditions to closing are met, it will close on the sale in the third quarter of 2016.continuing operations).
The foregoing description does not purport to be complete and is qualified in its entirety by reference to the full text of the WPB Sale Agreement filed as Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q, which is incorporated herein by reference.
Discontinued Operations
The results of operations at the 17 campuses slated for divestiture, as discussed above, for the three and sixnine months ended JuneSeptember 30, 2016 and 2015 were as follows (in thousands):
| | | Three Months Ended June 30, | | | Six Months Ended June 30, | | | Three Months Ended September 30, | | | Nine Months Ended September 30, | |
| | | 2016 | | | 2015 | | | 2016 | | | 2015 | | | 2016 | | | 2015 | | | 2016 | | | 2015 | |
| Revenue | | $ | 26,186 | | | $ | 27,654 | | | $ | 53,387 | | | $ | 56,700 | | | $ | 24,464 | | | $ | 25,013 | | | $ | 74,547 | | | $ | 77,590 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Loss before income tax | | | (413 | ) | | | (2,010 | ) | | | (352 | ) | | | (2,751 | ) | | | (1,733 | ) | | | (1,374 | ) | | | (1,978 | ) | | | (4,271 | ) |
| Income tax benefit | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | |
| Net loss from discontinued operations | | $ | (413 | ) | | $ | (2,010 | ) | | $ | (352 | ) | | $ | (2,751 | ) | | $ | (1,733 | ) | | $ | (1,374 | ) | | $ | (1,978 | ) | | $ | (4,271 | ) |
Critical Accounting Policies and Estimates
Our discussions of our financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the period. On an ongoing basis, we evaluate our estimates and assumptions, including those related to revenue recognition, bad debts, impairments, income taxes, benefit plans and certain accruals. Actual results could differ from those estimates. The critical accounting policies discussed herein are not intended to be a comprehensive list of all of our accounting policies. In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not result in significant management judgment in the application of such principles. We believe that the following accounting policies are most critical to us in that they represent the primary areas where financial information is subject to the application of management’s estimates, assumptions and judgment in the preparation of our consolidated financial statements.
Revenue Recognition. Revenues are derived primarily from programs taught at the Company’s schools. Tuition revenues, textbook sales and one-time fees, such as nonrefundable application fees and course material fees, are recognized on a straight-line basis over the length of the applicable program as the student proceeds through the program, which is the period of time from a student’s start date through his or her graduation date, including internships or externships that take place prior to graduation, and the Company completes the performance of teaching the student which entitles the Company to the revenue. Other revenues, such as tool sales and contract training revenues are recognized as services are performed or goods are delivered. On an individual student basis, tuition earned in excess of cash received is recorded as accounts receivable, and cash received in excess of tuition earned is recorded as unearned tuition.
The Company evaluates whether collectability of revenue is reasonably assured prior to the student attending class and reassesses collectability of tuition and fees when a student withdraws from a course. The Company calculates the amount to be returned under Title IV and its stated refund policy to determine eligible charges. If there is a balance due from the student after this calculation, the Company expects payment from the student and the Company has a process to pursue uncollected accounts whereby, based upon the student’s financial means and ability to pay, a payment plan is established with the student to ensure that collectability is reasonably assured. The Company continuously monitors its historical collections to identify potential trends that may impact our determination that collectability of receivables for withdrawn students is realizable. If a student withdraws from a program prior to a specified date, any paid but unearned tuition is refunded. Refunds are calculated and paid in accordance with federal, state and accrediting agency standards. Generally, the amount to be refunded to a student is calculated based upon the period of time the student has attended classes and the amount of tuition and fees paid by the student as of his or her withdrawal date. These refunds typically reduce deferred tuition revenue and cash on our consolidated balance sheets as the Company generally does not recognize tuition revenue in its consolidated statements of income (loss) until the related refund provisions have lapsed. Based on the application of its refund policies, the Company may be entitled to incremental revenue on the day the student withdraws from one of its schools. Prior to the year-ended December 31, 2015, the Company recorded this incremental revenue, any related student receivable and any estimate of the amount it did not expect to collect as bad debt expense during the quarter a student withdrew based on its analysis of the collectability of such amounts on an aggregate student portfolio basis, for which the Company had significant historical experience. Beginning in the three months ended December 31 2015, the Company recorded revenue for students who withdraw from one of its schools when payment is received because collectability on an individual student basis is not reasonably assured. The Company determined incremental revenue recognized for students who withdrew during the nine-months ended September 30, 2015 to be an immaterial error which was corrected during the fourth quarter of 2015. This resulted in a reduction of net revenues by $0.3 million and bad debt expense by $0.2 million, which resulted in an increase to the loss from continuing operations of $0.1 million for the year ended December 31, 2015. Additionally, this correction reduced net student receivables from continuing operations by $0.1 million. Prior year amounts, including quarterly financial results were not restated because the effects were not material.
Allowance for uncollectible accounts. Based upon our experience and judgment, we establish an allowance for uncollectible accounts with respect to tuition receivables. We use an internal group of collectors, augmented by third-party collectors as deemed appropriate, in our collection efforts. In establishing our allowance for uncollectible accounts, we consider, among other things, current and expected economic conditions, a student’s status (in-school or out-of-school), whether or not a student is currently making payments and overall collection history. Changes in trends in any of these areas may impact the allowance for uncollectible accounts. The receivables balances of withdrawn students with delinquent obligations are reserved based on our collection history. Although we believe that our reserves are adequate, if the financial condition of our students deteriorates, resulting in an impairment of their ability to make payments, additional allowances may be necessary, which will result in increased selling, general and administrative expenses in the period such determination is made.
Our bad debt expense as a percentage of revenue for the three months ended JuneSeptember 30, 2016 and 2015 was 5.2%4.4% and 6.3%4.1%, respectively. Our bad debt expense as a percentage of revenue for the sixnine months ended JuneSeptember 30, 2016 and 2015 was 5.1%4.8% and 5.6%4.9%, respectively. The improvement in our bad debt was mainly the result of improved historical collection rates and shift in student mix. Our exposure to changes in our bad debt expense could impact our operations. A 1% increase in our bad debt expense as a percentage of revenues for each of the three months ended June,September 30, 2016 and 2015 would have resulted in an increase in bad debt expense of $0.4$0.5 million and $0.4$0.5 million, respectively. A 1% increase in our bad debt expense as a percentage of revenues for each of the sixnine months ended June,September 30, 2016 and 2015 would have resulted in an increase in bad debt expense of $0.9$1.4 million and $0.9$1.5 million, respectively.
We do not believe that there is any direct correlation between tuition increases, the credit we extend to students and our loan commitments. Our loan commitments to our students are made on a student-by-student basis and are predominantly a function of the specific student’s financial condition. We only extend credit to the extent there is a financing gap between the tuition charged for the program and the amount of grants, cash, loans and parental loans that each student receives. Each student’s funding requirements are unique. Factors that determine the amount of aid available to a student are student status (whether they are dependent or independent students), Pell Grants awarded, Plus Loans awarded or denied to parents and family contributions. As a result, it is extremely difficult to predict the number of students that will need us to extend credit to them. Our tuition increases have ranged historically from 2% to 5% annually and have not meaningfully impacted overall funding requirements.
Because a substantial portion of our revenue is derived from Title IV programs, any legislative or regulatory action that significantly reduces the funding available under Title IV programs or the ability of our students or schools to participate in Title IV programs could have a material effect on the realizability of our receivables.
Goodwill. We test our goodwill for impairment annually, or whenever events or changes in circumstances indicate an impairment may have occurred, by comparing its fair value to its carrying value. Impairment may result from, among other things, deterioration in the performance of the acquired business, adverse market conditions, adverse changes in applicable laws or regulations, including changes that restrict the activities of the acquired business, and a variety of other circumstances. If we determine that impairment has occurred, we are required to record a write-down of the carrying value and charge the impairment as an operating expense in the period the determination is made. In evaluating the recoverability of the carrying value of goodwill and other indefinite-lived intangible assets, we must make assumptions regarding estimated future cash flows and other factors to determine the fair value of the acquired assets. Changes in strategy or market conditions could significantly impact these judgments in the future and require an adjustment to the recorded balances.
There was no goodwill impairment duringfor the three and sixor nine months ended JuneSeptember 30, 20162016.
The Company concluded that as of September 30, 2015 there was an indicator of potential impairment as a result of a decrease in market capitalization and, accordingly, the Company tested goodwill for impairment. The test indicated that one of the Company’s reporting units was impaired, which resulted in a pre-tax non-cash charge of $0.2 million for the three months ended September 30, 2015.
Long-lived assets. We review the carrying value of our long-lived assets and identifiable intangibles for possible impairment whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable. We evaluate long-lived assets for impairment by examining estimated future cash flows. These cash flows are evaluated by using weighted probability techniques as well as comparisons of past performance against projections. Assets may also be evaluated by identifying independent market values. If we determine that an asset’s carrying value is impaired, we will record a write-down of the carrying value of the asset and charge the impairment as an operating expense in the period in which the determination is made.
There was no long-lived asset impairment during the three and sixnine months ended JuneSeptember 30, 2016 and 2015.
Bonus costs. We accrue the estimated cost of our bonus programs using current financial information as compared to target financial achievements and key performance objectives. Although our recorded liability for bonuses is based on our best estimate of the obligation, actual results could differ and require adjustment of the recorded balance.
Income taxes. We account for income taxes in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Code (“ASC”) Topic 740, “Income Taxes” (“ASC 740”). This statement requires an asset and liability approach for measuring deferred taxes based on temporary differences between the financial statement and tax basis of assets and liabilities existing at each balance sheet date using enacted tax rates for years in which taxes are expected to be paid or recovered.
In accordance with ASC 740, we assess our deferred tax asset to determine whether all or any portion of the asset is more likely than not unrealizable. A valuation allowance is required to be established or maintained when, based on currently available information, it is more likely than not that all or a portion of a deferred tax asset will not be realized. In accordance with ASC 740, our assessment considers whether there has been sufficient income in recent years and whether sufficient income is expected in future years in order to utilize the deferred tax asset. In evaluating the realizability of deferred income tax assets, we considered, among other things, historical levels of income, expected future income, the expected timing of the reversals of existing temporary reporting differences, and the expected impact of tax planning strategies that may be implemented to prevent the potential loss of future income tax benefits. Significant judgment is required in determining the future tax consequences of events that have been recognized in our consolidated financial statements and/or tax returns. Differences between anticipated and actual outcomes of these future tax consequences could have a material impact on our consolidated financial position or results of operations. Changes in, among other things, income tax legislation, statutory income tax rates, or future income levels could materially impact our valuation of income tax assets and liabilities and could cause our income tax provision to vary significantly among financial reporting periods. On the basis of this evaluation the realization of our deferred tax assets was not deemed to be more likely than not and thus we have provided a valuation allowance on our net deferred tax assets.
We recognize accrued interest and penalties related to unrecognized tax benefits in income tax expense. During the three and sixnine months ended JuneSeptember 30, 2016 and 2015, there were no interest and penalties expense associated with uncertain tax positions.
Effect of Inflation
Inflation has not had a material effect on our operations.
Results of Continuing Operations
Certain reported amounts in our analysis have been rounded for presentation purposes. The following table sets forth selected consolidated statements of continuing operations data as a percentage of revenues for each of the periods indicated:
| | | Three Months Ended June 30, | | | | | | Three Months Ended September 30, | | | Nine Months Ended September 30, | |
| | | 2016 | | | 2015 | | | 2016 | | | 2015 | | | 2016 | | | 2015 | | | 2016 | | | 2015 | |
| Revenue | | | 100.0 | % | | | 100.0 | % | | | 100.0 | % | | | 100.0 | % | | | 100.0 | % | | | 100.0 | % | | | 100.0 | % | | | 100.0 | % |
| Costs and expenses: | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Educational services and facilities | | | 51.7 | % | | | 50.3 | % | | | 52.5 | % | | | 49.2 | % | | | 49.0 | % | | | 46.3 | % | | | 51.3 | % | | | 48.0 | % |
| Selling, general and administrative | | | 55.1 | % | | | 59.4 | % | | | 58.7 | % | | | 60.9 | % | | | 48.9 | % | | | 42.0 | % | | | 55.0 | % | | | 53.8 | % |
| Gain on sale of assets | | | 0.0 | % | | | 0.0 | % | | | -0.5 | % | | | 0.0 | % | | | 0.0 | % | | | 0.4 | % | | | -0.3 | % | | | 0.1 | % |
| Impairment of goodwill and long-lived assets | | | | 0.0 | % | | | 0.4 | % | | | 0.0 | % | | | 0.1 | % |
| Total costs and expenses | | | 106.8 | % | | | 109.8 | % | | | 110.7 | % | | | 110.0 | % | | | 97.9 | % | | | 89.1 | % | | | 105.9 | % | | | 102.1 | % |
| Operating loss | | | -6.8 | % | | | -9.8 | % | | | -10.7 | % | | | -10.0 | % | |
| Operating Income (loss) | | | | 2.1 | % | | | 10.9 | % | | | -5.9 | % | | | -2.1 | % |
| Interest expense, net | | | -3.6 | % | | | -3.4 | % | | | -3.6 | % | | | -3.2 | % | | | -2.9 | % | | | -3.9 | % | | | -3.3 | % | | | -3.4 | % |
| Other income | | | 4.0 | % | | | 0.8 | % | | | 4.0 | % | | | 0.6 | % | | | 3.4 | % | | | 0.4 | % | | | 3.7 | % | | | 0.5 | % |
| Loss from continuing operations before income taxes | | | -6.4 | % | | | -12.4 | % | | | -10.3 | % | | | -12.6 | % | |
| Income (loss) from continuing operations before income taxes | | | | 2.6 | % | | | 7.4 | % | | | -5.5 | % | | | -5.0 | % |
| Provision for income taxes | | | 0.1 | % | | | 0.1 | % | | | 0.1 | % | | | 0.1 | % | | | 0.1 | % | | | 0.1 | % | | | 0.1 | % | | | 0.1 | % |
| Loss from continuing operations | | | -6.5 | % | | | -12.5 | % | | | -10.4 | % | | | -12.7 | % | |
| Income (loss) from continuing operations | | | | 2.5 | % | | | 7.3 | % | | | -5.6 | % | | | -5.1 | % |
Three Months Ended JuneSeptember 30, 2016 Compared to Three Months Ended JuneSeptember 30, 2015
Consolidated Results of Operations
Revenue. Revenue decreased by $2.8$4.2 million, or 6.4%7.8%, to $41.9$49.8 million for the three months ended JuneSeptember 30, 2016 from $44.7$54.0 million in the prior comparable period of 2015. The decrease was a result of starting 2016 with approximately 800 fewer students than we had on January 1, 2015 which led to a 9.6%an 8.1% decline in average student population to approximately 6,6007,400 as of JuneSeptember 30, 2016 from 7,3008,100 as of JuneSeptember 30 of the prior year comparable quarter. Student start results for the quarter stabilized compared to the comparable quarter in the prior year. ForThe Transitional segment accounted for approximately 58% of the three months ended June 30, 2016, startsrevenue decline and about 51% of the average population decline.
Student start results decreased by 0.5% compared10.5% to the same period in 2015. This was an improvement in comparison to the decline of approximately 10% during the same period in 2015 compared to the comparable quarter in 2014. Excluding the Transitional segment, the Company experienced a slight growth in starts to 1,936 for the quarter ended June 30, 2016 compared to 1,930 for the second quarter of 2015.
Partially offsetting the decrease in revenue was an increase of 3.5% in average revenue per student3,100 from 3,500 for the three months ended JuneSeptember 30, 2016 dueas compared to the prior year comparable period. Excluding the Transitional segment, student starts were slightly down. The decline in student starts was mainly a shift in program mix.result of the underperformance of one campus. Excluding this campus and the Transitional segment our starts for the quarter would have grown over the prior year comparable period.
We continue to face certain challenges in growing our student population levels including the impact Department of Education (“DOE”) incentive compensation regulations have on compensation practices for our admissions representatives, a low national unemployment rate and increased competition from peers and community colleges. We remain focused on our strategy to fully divest our Healthcare and Other Professions segment and continue to form partnership relationships to increase student population.
Educational services and facilities expense. Our educational services and facilities expense decreased by $0.8$0.6 million, or 3.7%2.4%, to $21.7$24.4 million for the three months ending Juneended September 30, 2016 from $22.5$25.0 million in the prior year comparable period.quarter.
The decrease in expense reductions were primarilywas partially due to a decrease of $0.6 million in instructional, books and tools expense driven by lower instructional expenses of $0.8 million, or 7.8%7.1%, as a result of a reduction in the number of instructors and other related costs resulting from lower average student population, partially offset by a $0.2$0.5 million, or 13.1%14.3% increase in books and tools expense incurred from the purchase of laptops which were provided to newly enrolled students in certain programs to enhance and expand the student overall learning experience.
Our facilities expense decreased by $0.3 million,$0.4, or 2.8%,3.6% resulting from two mainthe following factors. The first factorFirst is a general reduction in facilities costs due to (a) the closure of theour Fern Park, Florida campus during the first quarter of 2016; (b) the2016 and over a 300,000 square foot reduction atin the Hartford, Connecticut campus, which is scheduled to be taught-out by year-end; and (c) lower rent expense as a result of certain lease renegotiations.year-end. These savings were largely offset by increased rent expense resulting fromwhich was the result of a modification of a lease atleases for three of our campuses, which were previously accounted for as finance obligations under which rent payments were previously included in interest expense and the conversion of the lease for our Hartford, Connecticut campus from a capital lease to an operating lease during the first quarter of 2016. The second factor is a decrease in depreciation expense of approximately $0.2 million, or 7.8%, as a result of accelerated depreciation expense in 2015 in connection with the Transitional segment campuses partially offset by additional depreciation expense in 2016 as a result of the reclassification of two facilities out of held for sale as of December 31, 2015.
Our educational expenses contain a high fixed cost component and are not as scalable as some of our other expenses. As our student population decreases, we typically experience a reduction in average class size and therefore, are not always able to align these expenses with the corresponding decrease in population. Educational services and facilities expenses, as a percentage of revenue, increased to 51.7%49.0% from 50.3%46.3% in the prior year period.quarter.
Selling, general and administrative expense. Our selling, general and administrative expense decreasedincreased by $3.5$1.6 million, or 13.2%7.2%, to $23.1$24.4 million for the three months ended JuneSeptember 30, 2016 from $26.6$22.7 million in the prior comparable periodquarter of 2015.
Administrative expense was lowerincreased by $2.8$1.1 million, or 18.6%9.1%, primarily as a result of approximately $1.3$0.9 million in reduced salaries and benefitclosing costs mainly due to lower healthcare claims, cost savings of $0.4 million in connectionassociated with the closureteach-out of the Fern Park,certain programs at our West Palm Beach, Florida facilitycampus which was reclassified back to continuing operations during the firstthird quarter of 2016, and a $0.6 decrease in bad debt expense which as a percentage of revenue was 5.2%. The improvement in bad debt expense was mainly the result of improved historical collection rates and shift in student mix.2016.
Sales and marketing expense decreasedincreased by $0.4$0.8 million, or 4.9%9.2%, primarily as a result of a reduction of $0.5 million in sales expense partially offset by an increase in marketing spending of $0.1 million. The reductionexpense in sales expense was mainly attributablea strategic effort to a reduction in the number of admissions representatives dedicated to the destination schools as a result of our implementation of a centralized call center which also reduced travel expense.
Student services expense decreased by $0.2 million, or 10.4%, as a result of aligning support services with lower levels of population.reach more potential students, expand brand awareness and increase enrollments.
As a percentage of revenues, selling, general and administrative expense decreasedincreased to 55.1%48.9% for the quarter ended JuneSeptember 30, 2016 from 59.4%42.0% for the quarter ended JuneSeptember 30, 2015.
Net interest expense. For the three months ended JuneSeptember 30, 2016, our net interest expense remained essentially flat at $1.5decreased by $0.6 million. ThereThis decrease was an increase in our interest expense of $1 million primarily resulting from our new Credit Agreement, which was offsetcaused by the transition of our finance obligation at three of our campuses to operating leases coupled with the lease termination agreements for our Fern Park, Florida and Hartford, Connecticut facilities which were previously accounted for as capital leases.
Income taxes. Our provision for income taxes was $0.1 million, or 1.9%3.8% of pretax loss,income, in the secondthird quarter of 2016, compared to $0.1 million, or 0.9%1.2% of pretax loss,income, in the prior year period. No federal or state income tax benefit was recognized for the current period loss due to the recognition of a full valuation allowance. Income tax expense resulted from various minimal state tax expenses.
SixNine Months Ended JuneSeptember 30, 2016 Compared to SixNine Months Ended JuneSeptember 30, 2015
Consolidated Results of Operations
Revenue. Revenue decreased by $7.1$12.1 million, or 7.7%8.1%, to $85.3$138.4 million for the sixnine months ended JuneSeptember 30, 2016 from $92.4$150.6 million in the prior comparable period of 2015. The decrease was a result of starting 2016 with approximately 800 fewer students than we had on January 1, 2015. This led to a 10.8%10.2% decline in average student population to approximately 6,7007,100 as of JuneSeptember 30, 2016 from 7,5007,900 as of JuneSeptember 30 in the prior year. Excluding the Transitional segment, starts were lower by 3.3% during the first half of 2016 compared to the first half of 2015.
Although 2016 average student population continuesStudent start results decreased by 8.2% to be negatively impacted by the beginning of year population, start declines have slowed down as evidenced by the resultsapproximately 6,800 from 7,400 for the sixnine months ended JuneSeptember 30, 2016 as compared to the prior year comparable periods. Starts forperiod. The decline in student starts was mainly a result of the first six months in 2016 were lower by 5.7% when compared to 2015, whileunderperformance of one campus. Excluding this campus and the Transitional segment our starts for the first half of 2015 declined 8.5% as compared toquarter would have grown over the prior year comparable period in 2014.period.
Partially offsetting the decrease in revenue was an increase of 3.4%2.4% in average revenue per student for the sixnine months ended JuneSeptember 30, 2016 due to a shift in program mix.
We continue to face certain challenges in growing our student population levels, including the impact that DOE incentive compensation regulations have on compensation practices for our admissions representatives, a low national unemployment rate and increased competition from peers and community colleges. We remain focused on our strategy to fully divest our Healthcare and Other Professions segment and continue to form partnership relationships to increase student population.
Educational services and facilities expense. Our educational services and facilities expense decreased by $0.6$1.4 million, or 1.3%1.9%, to $44.8$71.0 million for the sixnine months ending Juneended September 30, 2016 from $45.4$72.3 million in the prior year comparable nine month period.
The decrease in expense was primarily due to a $1.7$2.5 million, or 7.9%7.5%, reduction in our instructional expenses as a result of a reduction in the number of instructors and other related costs resulting from lower average student population, partially offset by an increase of $0.3$0.8 million in books and tools expense resulting from the purchase of laptops which were provided to newly enrolled students in certain programs to enhance and expand their overall learning experience.
Our facilities expense increased by $0.7$0.3 million, or 3.6%1.0% resulting from a) additional depreciation expense as a result of the reclassification of two campus out of held for sale as of December 31, 2015; b) increased rent expense resulting from the modification of a lease atleases for three of our campuses which were previously accounted for as finance obligations under which rent payments were previously included in interest expense;expense and c) the conversion of the lease for our Hartford, Connecticut campus from a capital lease to an operating lease during the quarter ended March 31, 2016.
Our educational expenses contain a high fixed cost component and are not as scalable as some of our other expenses. As our student population decreases, we typically experience a reduction in average class size and, therefore, are not always able to align these expenses with the corresponding decrease in population. Educational services and facilities expenses, as a percentage of revenue, increased to 52.5%51.3% from 49.2%48.0%.
Selling, general and administrative expense. Our selling, general and administrative expense decreased by $6.1$4.9 million, or 10.9%6.1%, to $50.1$76.1 million for the sixnine months ended JuneSeptember 30, 2016 from $56.2$81.0 million in the prior year comparable nine month period.
Administrative expense was lower by $4.4$3.4 million, or 13.6%7.6%, as a result of (a) a $2.6$2.8 million reduction in salaries and benefit costs mainly due to lower workman’s compensation and healthcare claims, which was partially offset by approximately $0.7 million in severance paid during the first quarter of 2016; (b) cost savings of $0.7$1.0 million in relation to the completion of the teach-out at our Fern Park, Florida campus; and (c) a $0.8 decrease in bad debt expense which as a percentage of revenue was 5.1%4.8% for the sixnine months ended JuneSeptember 30, 2016, compared to 5.6%4.9% for the same period in 2015. The improvement in bad debt expense was mainly the result of improved historical collection rates and shift in student mix. These cost savings were partially offset by $1.2 million in additional costs associated with the reclassification of certain programs at our West Palm Beach, Florida campus to continuing operations during the third quarter of 2016.
Sales and marketing expenses decreased by $1.4$0.9 million, or 7.0%3.0%, as a result of a reduction of $1$1.0 million in sales expense in combination withpartially offset by a decrease$0.1 million increase in marketing expense of $0.4 million.expense. The reduction in sales expense was mainly attributable to (a) a reduction in the number of admissions representatives dedicated to the destination schools as a result of our implementation of a centralized call center reducing travel and salary expense.expense; and (b) suspended sales efforts at the Fern Park, Florida and Hartford, Connecticut campuses. The decreaseincrease in marketing expense is largely the result of additional spending in a strategic effort to reach more potential students, expand brand awareness and increase enrollments. The increased spending in marketing expenses was partially offset by cost savings as a result of suspended marketing efforts at the Fern Park, Florida and Hartford, Connecticut campuses. The Fern Park, Florida campus completed its teach out process as of March 31, 2016 and the Hartford, Connecticut campus is still on schedule to be fully taught out by December 31, 2016.
Student services expense decreased by $0.4$0.6 million, or 8.4%9.2%, as a result of aligning support services with lower levels of population.
As a percentage of revenues, selling, general and administrative expense decreasedincreased to 58.7%55.0% for the sixnine months ended JuneSeptember 30, 2016 from 60.8%53.8% for the prior year comparable period.
Net interest expense. For the sixnine months ended JuneSeptember 30, 2016, our net interest expense remained essentially flat at $3decreased by $0.6 million. ThereThis decrease was an increase in our interest expense of $1.8 primarily resulting from our new Term Loan, which was offsetcaused by the transition of our finance obligation at three of our campuses to operating leases coupled with the lease termination agreements for theour Fern Park, Florida and Hartford, Connecticut facilities which were previously accounted for as capital leases.leases
Income taxes. Our provision for income taxes was $0.1$0.2 million, or 1.1%2.0% of pretax loss, for the sixnine months ended JuneSeptember 30, 2016, compared to $0.1$0.2 million, or 0.9%2.0% of pretax loss, in the prior year period. No federal or state income tax benefit was recognized for the current period loss due to the recognition of a full valuation allowance. Income tax expense resulted from various minimal state tax expenses.
Segment Results of Operations
The for-profit education industry has been impacted by numerous regulatory changes, the changing economy and an onslaught of negative media attention. As a result of these actions, student populations have declined and operating costs have increased. Over the past few years, the Company has closed over ten locations and exited its online business. On November 3, 2015, the Company’s Board of Directors approved a plan to divest 17 of the 18 schools included in the Company’s Healthcare and Other Professions business segment. The 17 campuses associated with this decision are reported in discontinued operations on the condensed consolidated statements of operations. On December 3, 2015, our Board of Directors approved a plan to cease operations at the remaining school in this segment, located in Hartford, Connecticut, which is scheduled to be taught out in the fourth quarter of 2016. The Company reviewed how it is structured and changed its organization, including reorganizing its Group Presidents to oversee each of the reporting segments. By aggregating the remaining 14 operating segments (Fern Park, Florida campus was fully taught out as of March 31, 2016) into two reporting segments, the Company is better able to allocate financial and human resources to respond to its markets with the goal of improving its profitability and competitive advantage.
In the past, we offered any combination of programs at any campus. We have changed our focus to program offerings that create greater differentiation and attain excellence to attract more students and gain market share. Also strategically, we began offering continuing education training to employers who hire our students and this is best achieved at campuses focused on their profession.
As a result of these environmental,the regulatory environment, market forces and strategic decisions, we now operate in two reportable segments: a) Transportation and Skilled Trades and b) Transitional.
Our reportable segments have been determined based on a method by which we now evaluate performance and allocate resources. Each reportable segment represents a group of post-secondary education providers that offer a variety of degree and non-degree academic programs. These segments are organized by key market segments to enhance operational alignment within each segment to more effectively execute our strategic plan. Each of the Company’s schools is a reporting unit and an operating segment. Our operating segments have been aggregated into two reportable segments because, in our judgment, the reporting units have similar services, types of customers, regulatory environment and economic characteristics. Our reporting segments are described below.
Transportation and Skilled Trades – Transportation and Skilled Trades offers academic programs mainly in the career-oriented disciplines of transportation and skilled trades (e.g. automotive, diesel, HVAC, welding and manufacturing).
Transitional – Transitional refers to operations that are being phasedtaught out and consists of our campuses that are currently being taught out. These schools are employing a gradual teach-out process that enables the schools to continue to operate while current students complete their course of study. These schools are no longer enrolling new students. In the first quarter of 2015, we announced that we are teaching out our campus in Fern Park, Florida and in December 2015, we announced that we are teaching out our campus in Hartford Connecticut. The teach-out at our Fern Park, Florida campus has been completed as of March 31, 2016 and the teach-out of our Hartford Connecticut campus is expected to be completed in December 2016. In addition, during the quarter ended September 30, 2016, the Board of Directors approved a plan to teach-out certain programs at the West Palm Beach, Florida campus which is expected to be completed in the first quarter of 2017. As a result, operations related to these programs have been included in the Transitional segment as of September 30, 2016.
We evaluate segment performance based on operating results. Adjustments to reconcile segment results to consolidated results are included under the caption “Corporate,” which primarily includes unallocated corporate activity.
The following table present results for our two reportable segments:
| | | Three Months Ended June 30, | | | Three Months Ended September 30, | |
| | | 2016 | | | 2015 | | | % Change | | | 2016 | | | 2015 | | | % Change | |
Revenue: | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | $ | 41,032 | | | $ | 42,447 | | | | -3.3 | % | | $ | 47,939 | | | $ | 49,697 | | | | -3.5 | % |
| Transitional | | | 862 | | | | 2,292 | | | | -62.4 | % | | | 1,864 | | | | 4,336 | | | | -57.0 | % |
| Total | | $ | 41,894 | | | $ | 44,739 | | | | -6.4 | % | | $ | 49,803 | | | $ | 54,033 | | | | -7.8 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
Operating Income (Loss): | | | | | | | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | $ | 2,431 | | | $ | 2,770 | | | | -12.2 | % | | $ | 6,122 | | | $ | 10,588 | | | | -42.2 | % |
| Transitional | | | (1,147 | ) | | | (1,926 | ) | | | 40.4 | % | | | (1,359 | ) | | | (1,312 | ) | | | -3.6 | % |
| Corporate | | | (4,123 | ) | | | (5,219 | ) | | | 21.0 | % | | | (3,720 | ) | | | (3,404 | ) | | | -9.3 | % |
| Total | | $ | (2,839 | ) | | $ | (4,375 | ) | | | 35.1 | % | | $ | 1,043 | | | $ | 5,872 | | | | 82.2 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
Starts: | | | | | | | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | | 1,936 | | | | 1,930 | | | | 0.3 | % | | | 3,090 | | | | 3,158 | | | | -2.2 | % |
| Transitional | | | - | | | | 16 | | | | -100.0 | % | | | 9 | | | | 305 | | | | -97.0 | % |
| Total | | | 1,936 | | | | 1,946 | | | | -0.5 | % | | | 3,099 | | | | 3,463 | | | | -10.5 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
Average Population: | | | | | | | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | | 6,489 | | | | 6,978 | | | | -7.0 | % | | | 7,128 | | | | 7,446 | | | | -4.3 | % |
| Transitional | | | 109 | | | | 321 | | | | -66.0 | % | | | 296 | | | | 633 | | | | -53.2 | % |
| Total | | | 6,598 | | | | 7,299 | | | | -9.6 | % | | | 7,424 | | | | 8,079 | | | | -8.1 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
End of Period Population: | | | | | | | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | | 6,950 | | | | 7,321 | | | | -5.1 | % | | | 7,667 | | | | 7,852 | | | | -2.4 | % |
| Transitional | | | 91 | | | | 293 | | | | -68.9 | % | | | 196 | | | | 646 | | | | -69.7 | % |
| Total | | | 7,041 | | | | 7,614 | | | | -7.5 | % | | | 7,863 | | | | 8,498 | | | | -7.5 | % |
Three Months Ended JuneSeptember 30, 2016 Compared to Three Months Ended JuneSeptember 30, 2015
Transportation and Skilled Trades
Revenue was lower by $1.4$1.8 million, or 3.3%3.5%, to $41$47.9 million in the three months ended JuneSeptember 30, 2016, as compared to $42.4$49.7 million in the prior year comparable period, primarily driven by a 7.0%4.3% decline in average population which decreased to approximately 6,5007,100 from 7,0007,400 in the prior year comparable period, however, student starts grew slightly for the quarter ended June 30, 2016 compared to prior year comparable period. TheThis decrease in average population was a result of starting 2016 with approximately 600 fewer students than we had on January 1, 2015.
Student start results decreased by 2.2% to approximately 3,100 from 3,200 for the three months ended September 30, 2016 as compared to the prior year comparable period. The revenue decline fromin student starts are mainly a lower population was slightly offset by a 3.8% increase in average revenue per student due to a shift in program mix.result of the underperformance of one campus. Excluding this campus our starts for the quarter would have grown over the prior year comparable period.
Operating income was $2.4$6.1 million compared to $2.8$10.6 million, a decrease of $0.3$4.5 million, or 12.2%42.2%, due to several factors:
| · | Educational services and facilities expense increased by $0.5$1.4 million, comprised of:of (a) a $0.4$0.8 million, or 5.0%9.0%, increase in facilities expense, primarily due to increased depreciation expense as a result of the reclassification of one campus out of held for sale as of December 31, 2015; increased rent expense resulting from the modification of a lease at three of our campuses which were previously accounted for as finance obligations under which rent payments were previously includedand (b) $0.8 million in interest expense; and increased books and tools expenses resulting from the purchase of laptops which were provided to newly enrolled students in certain programs to enhance and expand their overall learning experience. These additional expenses were partially offset by $0.3 million, or 3.1%, decrease in instructional expense as a result of realigning our cost structure to meet our student population. |
| · | Selling, general and administrative expenses decreasedincreased by $1.5$1.6 million, primarily comprised of a $1.3$1.0 million decreaseincrease in administrativemarketing expense primarilycoupled with a $0.4 million increase in sales expense. The increase in marketing expense was largely the result of additional spending in a decreasestrategic effort to reach more potential students, expand brand awareness and increase enrollments. The increase in salaries and benefits, lower bad debt expense and reduced legal expenses. The improvement in bad debtsales expense was mainly thea result of an improved historical collection rates and shift in student mix.hiring additional personnel at the campus level to help with recruiting efforts at the high school level. |
Despite the revenue decrease of $1.4 million, operating income declined only by $0.3 million as a result of cost management efforts.
Transitional
This segment consists of the Fern Park, Florida andcampus, Hartford, Connecticut campuses.campus and certain programs at our West Palm Beach, Florida campus. During the quarter ended September 30, 2016 management made the strategic decision to teach-out certain programs at our West Palm Beach, Florida campus which resulted in operations related to these programs being included in the Transitional segment as of September 30, 2016. The teach-out of these programs is expected to be completed in the first quarter of 2017. The Fern Park, Florida campus has fully taught out all of its existing students and was officially closed as of March 31, 2016. The2016 and the Hartford, Connecticut campus has ceased student enrollment and is currently still teaching out the remaining students through December 2016.
Revenue decreased by $1.4$2.5 million, or 62.4%57.0%, to $0.9$1.9 million for the three months ended JuneSeptember 30, 2016 from $2.3$4.3 million, in the prior year comparable period. This decrease is mainly attributable to the closure of the Fern Park, Florida campus and the suspension of new student enrollment at our Hartford, Connecticut location which took effect in the fourth quarter of 2015.
Operating loss decreased by $0.8 million, or 40.4%, to $1.1 million from $1.9remained essentially flat at $1.3 million.
Corporate and Other
This category includes unallocated expenses incurred on behalf of the Company. Corporate and Other costs decreasedincreased by $1.1$0.3 million, or 21.0%9.3%, to $4.1$3.7 for the three months ended JuneSeptember 30, 2016 from $5.2$3.4 million for the comparable prior year quarter. This decrease was primarily a result of cost management efforts by the Company to meet its long term strategic goals and objectives.
The following table present results for our two reportable segments:
| | | Six Months Ended June 30, | | | Nine Months Ended September 30, | |
| | | 2016 | | | 2015 | | | % Change | | | 2016 | | | 2015 | | | % Change | |
| Revenue: | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | $ | 83,303 | | | $ | 87,291 | | | | -4.6 | % | | $ | 131,242 | | | $ | 136,988 | | | | -4.2 | % |
| Transitional | | | 2,034 | | | | 5,122 | | | | -60.3 | % | | | 7,202 | | | | 13,581 | | | | -47.0 | % |
| Total | | $ | 85,337 | | | $ | 92,413 | | | | -7.7 | % | | $ | 138,444 | | | $ | 150,569 | | | | -8.1 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Operating Income (Loss): | | | | | | | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | $ | 5,796 | | | $ | 7,745 | | | | -25.2 | % | | $ | 11,920 | | | $ | 18,333 | | | | -35.0 | % |
| Transitional | | | (4,113 | ) | | | (3,748 | ) | | | -9.7 | % | | | (5,579 | ) | | | (4,916 | ) | | | -13.5 | % |
| Corporate | | | (10,846 | ) | | | (13,208 | ) | | | 17.9 | % | | | (14,568 | ) | | | (16,610 | ) | | | 12.3 | % |
| Total | | $ | (9,163 | ) | | $ | (9,211 | ) | | | 0.5 | % | | $ | (8,227 | ) | | $ | (3,193 | ) | | | -157.7 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Starts: | | | | | | | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | | 3,596 | | | | 3,717 | | | | -3.3 | % | | | 6,686 | | | | 6,875 | | | | -2.7 | % |
| Transitional | | | - | | | | 98 | | | | -100.0 | % | | | 129 | | | | 549 | | | | -76.5 | % |
| Total | | | 3,596 | | | | 3,815 | | | | -5.7 | % | | | 6,815 | | | | 7,424 | | | | -8.2 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Average Population: | | | | | | | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | | 6,521 | | | | 7,101 | | | | -8.2 | % | | | 6,723 | | | | 7,216 | | | | -6.8 | % |
| Transitional | | | 135 | | | | 364 | | | | -62.9 | % | | | 379 | | | | 694 | | | | -45.5 | % |
| Total | | | 6,656 | | | | 7,465 | | | | -10.8 | % | | | 7,102 | | | | 7,910 | | | | -10.2 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| End of Period Population: | | | | | | | | | | | | | | | | | | | | | | | | |
| Transportation and Skilled Trades | | | 6,950 | | | | 7,321 | | | | -5.1 | % | | | 7,667 | | | | 7,852 | | | | -2.4 | % |
| Transitional | | | 91 | | | | 293 | | | | -68.9 | % | | | 196 | | | | 646 | | | | -69.7 | % |
| Total | | | 7,041 | | | | 7,614 | | | | -7.5 | % | | | 7,863 | | | | 8,498 | | | | -7.5 | % |
Nine Months Ended JuneSeptember 30, 2016 Compared to SixNine Months Ended JuneSeptember 30, 2015
Transportation and Skilled Trades
Revenue decreased by $4$5.7 million, or 4.6%4.2%, to $83.3$131.2 million in the sixnine months ending Juneended September 30, 2016, as compared to $87.3$137.0 million in the prior year comparable period, primarily driven by an 8.2%a 6.8% decline in average population which decreased to approximately 6,5006,700 from 7,1007,200 in the prior year comparable period. The decrease in average population was a result of starting 2016 with approximately 600 fewer students than we had on January 1, 2015.
The overall starts number is lowerStudent start results decreased by 3.3% compared2.7% to 2015; however, it is an improvementapproximately 6,700 from 6,900 for the nine months ended September 30, 2016 as compared to the 5.3%prior year comparable period. The decline in student starts are mainly a result of the underperformance of one campus. Excluding this campus our starts for the same period in 2015 compared toquarter would have grown over the second quarter of 2014.prior year comparable period.
The revenue decline from a lower population was slightly offset by a 3.8%2.7% increase in average revenue per student due to a shift in program mix.
Operating income was $5.8$11.9 million compared to $7.7$18.3 million, a decrease of $2$6.4 million, or 25.2%35.0%, driven by the following main factors:
| · | Educational services and facilities expense increased by $0.6$1.9 million, comprised of a $0.9$1.6 million, or 5.3%6.5%, increase in facilities expense, primarily due to (a) $0.6 million in increased depreciation expense as a result of the reclassification of one campus out of held for sale as of December 31, 2015; (b) $0.9 million in increased rent expense resulting from the modification of a leaseleases at three of our campuses, which were previously accounted for as finance obligations under which rent payments were previously included in interest expense; and increased(c) a $1.3 million, or 18.6% increase in books and tools expenses resulting from the purchase of laptops which were provided to newly enrolled students in certain programs to enhance and expand their overall learning experience. Partially offsetting the above increases was a $0.8$1.0 million, or 4.2%3.4%, decrease in instructional expense as a result of realigning our cost structure to meet our population. |
| · | Selling, general and administrative expenses decreased by $2.6$1.0 million primarily comprised of a $1.9$1.6 million decrease in administrative expenses which was primarily the result of a decrease in salaries and benefits and lower bad debt expense and reduced legal expenses.expense. The improvement in bad debt expense was mainly the result of an improved historical collection rates and a shift in student mix. |
Despite the revenue decrease of $4 million, operating income declined only by $2 million, as a result of cost management measures implemented which will continue in order to further improve operating efficiencies.
Transitional
This segment consists of ourthe Fern Park, Florida andcampus, Hartford, Connecticut campuses where we have ceased student enrollment. Ourcampus and certain programs at our West Palm Beach, Florida campus. During the third quarter of 2016, management made the strategic decision to teach-out certain programs at our West Palm Beach, Florida campus which resulted in operations related to these programs being included in the Transitional segment as of September 30, 2016. The teach-out of these programs is expected to be completed in the first quarter of 2017. The Fern Park, Florida campus has fully taught out all of its existing students and iswas officially closed as of March 31, 2016 while ourand the Hartford, Connecticut campus has ceased student enrollment and is currently still teaching out the remaining students through December 2016.
Revenue decreased by $3.1$6.4 million, or 60.3%47.0%, to $2$7.2 million for the sixnine months ended JuneSeptember 30, 2016 from $5.1$13.6 million, in the prior year comparable period. This decrease is mainly attributable to the closing of our Fern Park, Florida campus and the suspension of new student enrollment at our Hartford, Connecticut location which took effect in the fourth quarter of 2015.
Operating loss increased by $0.4$0.7 million, or 9.7%13.5%, to $4.1$5.6 million from $3.7$4.9 million.
Corporate and Other
This category includes unallocated expenses incurred on behalf of the Company. Corporate and Other costs decreased by $2.4$2.0 million, or 17.9%12.3%, to $10.8$14.6 for the sixnine months ended JuneSeptember 30, 2016 from $13.2$16.6 million for the sixnine months ended JuneSeptember 30, 2015. This decrease was primarily a result of cost management efforts by the Company to meet its long term strategic goals and objectives.
LIQUIDITY AND CAPITAL RESOURCES
Our primary capital requirements are for facilities expansion and maintenance, and the development of new programs. Our principal sources of liquidity have been cash (used in) provided by operating activities and borrowings under our term loan facility. The following chart summarizes the principal elements of our cash flow:
| | | Six Months Ended June 30, | | | Nine Months Ended September 30, | |
| | | 2016 | | | 2015 | | | 2016 | | | 2015 | |
| Net cash used in operating activities | | $ | (18,138 | ) | | $ | (11,646 | ) | |
| Net cash (used in) provided by operating activities | | | $ | (9,513 | ) | | $ | 2,492 | |
| Net cash used in investing activities | | | (307 | ) | | | (1,218 | ) | | | (643 | ) | | | (1,159 | ) |
| Net cash (used in) provided by financing activities | | | (9,025 | ) | | | 5,415 | | | | (9,024 | ) | | | 18,790 | |
As of JuneSeptember 30, 2016, we had cash and cash equivalents of $37.8$45.8 million, including restricted cash of $26.8$26.6 million representing a decrease of approximately $23.2$15.2 as compared to $61 million of cash, cash equivalents and restricted cash as of December 31, 2015. This decrease is primarily the result of a net loss during the yearyear; $8.5 million of approximately $9.2 million; a $2.9 million lease termination fee paid in connection with the termination of the lease for our Fern Park, Florida campus;campus closing costs; $0.7 million loan modification fee paid to our lender in relation to an amendment of our Term Loan; and $0.7 million in severance paid during the sixnine months ended JuneSeptember 30, 2016. In addition, the decrease in our cash position is reflective of the seasonality of the industry, the reduction in revenue, and the timing of Title IV funds received.
For the last several years, we and the proprietary school sector generally have faced deteriorating earnings growth. Government regulations have negatively impacted earnings by making it more difficult for potential students to obtain loans, which when coupled with the overall economic environment have discouraged potential students from enrolling in our schools. In light of these factors, we have incurred significant operating losses as a result of lower student population. Despite these events, we believe that our likely sources of cash should be sufficient to fund operations for the next twelve months. As of JuneSeptember 30, 2016, our available sources of cash primarily include cash from operations and cash and cash equivalents of $10.9.$19.2 million.
To fund our business plans, including any anticipated future losses, purchase commitments, capital expenditures and principal and interest payments on borrowings, we leveraged our owned real estate that is not classified as held for sale. We are also continuing to take actions to improve cash flow by aligning our cost structure to our student population.
Our primary source of cash is tuition collected from our students. The majority of students enrolled at our schools rely on funds received under various government-sponsored student financial aid programs to pay a substantial portion of their tuition and other education-related expenses. The largest of these programs are Title IV Programs which represented approximately 80% of our cash receipts relating to revenues in 2015. Students must apply for a new loan for each academic period. Federal regulations dictate the timing of disbursements of funds under Title IV Programs and loan funds are generally provided by lenders in two disbursements for each academic year. The first disbursement is usually received approximately 31 days after the start of a student's academic year and the second disbursement is typically received at the beginning of the sixteenth week from the start of the student's academic year. Certain types of grants and other funding are not subject to a 30-day delay. In certain instances, if a student withdraws from a program prior to a specified date, any paid but unearned tuition or prorated Title IV financial aid is refunded according to federal, state and accrediting agency standards.
As a result of the significance of the Title IV funds received by our students, we are highly dependent on these funds to operate our business. Any reduction in the level of Title IV funds that our students are eligible to receive or any impact on our ability to be able to receive Title IV funds would have a significant impact on our operations and our financial condition. See “Risk Factors” in Item 1A, included in our Annual Report on Form 10-K for the year ended December 31, 2015.
Operating Activities
Net cash used in operating activities was $18.1$9.5 million for the sixnine months ended JuneSeptember 30, 2016 compared to $11.6cash provided by operating activities of $2.5 million for the comparable period of 2015. For the nine months ended September 30, 2016, changes in our operating assets and liabilities resulted in cash outflows of $14.4 million and were primarily attributable to changes in deferred revenue, accounts receivable, and accounts payable and accrued expenses. The $6.5 million decrease in netdeferred revenue resulted in a cash outflow of $2.0 million and was primarily resulted from aattributable to the timing of student starts, the number of students in school and the status of students in relation to the completion of their program at September 30, 2016 compared to December 31, 2015. The decrease in collectionsreceivables resulted in a cash outflow of $17.4 million and was primarily due to lower populationthe timing of Title IV disbursements and other working capital items.cash receipts on behalf of our students. The increase in accounts payable and accrued expenses resulted in a cash inflow of $5.5 million. This increase was primarily attributable to the timing of invoices.
For the nine months ended September 30, 2015, changes in our operating assets and liabilities resulted in cash outflows of $8.3 million and were primarily attributable to changes in deferred revenue, accounts receivable, and accounts payable and accrued expenses. The increase in deferred revenue resulted in a cash inflow of $1.0 million. The increase was primarily attributable to the timing of student starts, the number of students in school and the status of students in relation to the completion of their program at September 31, 2015 compared to December 31, 2014. The decrease in receivables resulted in a cash outflow of $14.2 million and was primarily due to the timing of Title IV disbursements and other cash receipts on behalf of our students. The increase in accounts payable and accrued expenses resulted in a cash inflow of $4.6 million. The increase was primarily attributable to the timing of invoices.
Investing Activities
Net cash used in investing activities was $0.3$0.6 million compared toand $1.2 million for the sixnine months ended JuneSeptember 30, 2016 and 2015, respectively. Our primary use of cash in investing activities was capital expenditures associated with investments in training technology, classroom furniture, and new program build outs. The use of cash for capital expenditures was partially offset by a reclassification of restricted cash to unrestricted cash during the quarter ended September 30, 2016.
We currently lease a majority of our campuses. We own our campuses in Grand Prairie, Texas; West Palm Beach, Florida; Nashville, Tennessee; Suffield, Connecticut; and Denver, Colorado. We have 17 schools that are held for sale.
Capital expenditures are expected to approximate 2% of revenues in 2016. We expect to fund future capital expenditures with cash generated from operating activities and cash borrowed under our term loan.
Financing Activities
Net cash used in financing activities was $9.0 million for the nine months ended September 30, 2016 as compared to cash provided from financing activities of $5.4$18.8 million for the sixnine months ended JuneSeptember 30, 2016 and 2015, respectively.2015. The decrease of $13.6$27.8 million was due to $2.9 million in lease termination payments resulting from the termination of our lease agreement for our Fern Park, Florida campus; a decrease in net borrowing of $6$22.0 million for the sixnine months ended JuneSeptember 30, 2016 as compared to the sixnine months JuneSeptember 30, 2015; and the reclassification of $5.0 million to restricted cash.
Credit Agreement
On July 31, 2015, the Company entered into a credit agreement with three lenders, Alostar Bank of Commerce (“Alostar”), HPF Holdco, LLC and Rushing Creek 4, LLC, led by HPF Service, LLC, as administrative agent and collateral agent (the “Agent”), for an aggregate principal amount of $45 million (the “Term Loan”). The July 31, 2015 credit agreement, along with subsequent amendments to the Credit Agreement dated December 31, 2015 and February 29, 2016, are collectively referred to as the “Credit Agreement.” As of December 31, 2015 and prior to the effectiveness of a second amendment to the Credit Agreement on February 29, 2016 (the “Second Amendment”), the Term Loan consisted of a $30 million term loan (the “Term Loan A”) from HPF Holdco, LLC, Rushing Creek 4, LLC and Tiger Capital Group, LLC, secured by a first priority lien in favor of the Agent on substantially all of the real and personal property owned by the Company, and a $15 million term loan (the “Term Loan B”) from Alostar secured by a $15.3 million cash collateral account. Pursuant to the Second Amendment, the Company received an additional $5 million term loan from Alostar with which the Company repaid $5 million of the principal amount of the Term Loan A. Accordingly, upon the effectiveness of the Second Amendment, the aggregate term loans outstanding under the Credit Agreement were approximately $45 million, consisting of an approximate $25 million Term Loan A and a $20 million Term Loan B. In addition, pursuant to the Second Amendment, the amount of cash collateral securing the Term Loan B was increased to $20.3 million. At the Company’s request, a percentage of the cash collateral may be released to the Company at the Agent’s sole discretion and with the consent of Alostar upon the satisfaction of certain criteria as outlined in the Credit Agreement. The Term Loan, which matures on July 31, 2019, replaced a previously existing $20 million revolving credit facility with Bank of America, N.A. and other lenders, which was due to expire on April 5, 2016. The previously existing revolving credit facility was terminated concurrently with the effective date of the Credit Agreement on July 31, 2015 (the “Closing Date”).
A portion of the proceeds of the Term Loan was used by the Company to (i) repay approximately $6.3 million in outstanding principal, accrued interest and fees due under the previously existing revolving credit facility, (ii) fund the $20.3 million cash collateral account securing the portion of the Term Loan provided by Alostar, (iii) fund approximately $7.4 million in a cash collateral account securing the letters of credit issued under the previously existing revolving credit facility that remain outstanding after the termination of that facility and (iv) pay transaction expenses in connection with the Term Loan and the termination of the previously existing revolving credit facility. The remaining proceeds of the Term Loan of approximately $11.0 million may be used by the Company to finance capital expenditures and for general corporate purposes consistent with the terms of the Credit Agreement.
Interest will accrue on the Term Loan at a per annum rate equal to the greater of (i) 11% or (ii) 90-day LIBOR plus 9% determined monthly by the Agent and will be payable monthly in arrears. The principal balance of the Term Loan will be repaid in equal monthly installments, commencing on August 1, 2017, determined as the quotient of (i) 10% of the outstanding principal balance of the Term Loan as of July 2, 2017 divided by (ii) 12. A final installment of principal and all accrued and unpaid interest will be due on the maturity date of the Term Loan.
The Term Loan may be prepaid, in whole or in part, at any time, subject to the payment of a prepayment premium equal to (i) 5% of the principal amount prepaid at any time up to but not including the second anniversary of the Closing Date and (ii) 3% of the principal amount prepaid at any time commencing on the second anniversary of the Closing Date up to but not including the third anniversary of the Closing Date. In the event of any sale or other disposition of a school or real property by the Company permitted under the Term Loan, the net proceeds of such sale or disposition must be used to prepay the Loan in an amount determined pursuant to the Credit Agreement, subject to the applicable prepayment premium; provided, however, that no prepayment premium will be due with respect to up to $15 million of aggregate repayments of the Term Loan made during the first year that the Term Loan is outstanding. A portion of the net cash proceeds of any disposition of a school in an amount determined pursuant to the terms of the Term Loan, must be deposited and held as cash collateral in a deposit account controlled by the Agent until the conditions for release set forth in the Term Loan are satisfied. In connection with the assets which are currently classified as held for sale and are expected to be sold within one year, the Company is required to classify $10 million as short term debt due to the Term Loan prepayment minimum required with respect to any such disposition.
The Term Loan contains customary representations, warranties and covenants such as minimum financial responsibility composite score, cohort default rate, and other financial covenants, including minimum liquidity, maximum capital expenditures, maximum 90/10 ratio and minimum EBITDA (as defined in the Term Loan), as well as affirmative and negative covenants and events of default customary for facilities of this type. Pursuant to the Second Amendment, the financial covenants were adjusted and, at the Company’s election, will be adjusted for fiscal year 2017 and for each subsequent fiscal year until the maturity of the Term Loan at either the levels applicable to fiscal year 2016 (and each fiscal quarter thereof) contained in the Credit Agreement as of the Closing Date or the levels applicable to fiscal year 2016 (and each fiscal quarter thereof) contained in the Second Amendment. In the event that the Company elects to re-set the financial covenants at the 2016 covenant levels contained in the Second Amendment, the Company will be required to prepay on or before January 15, 2017, without prepayment penalty, amounts outstanding under the Term Loan up to $4 million. The Company was in compliance with all financial covenants as of JuneSeptember 30, 2016.
The Credit Agreement contains events of default, the occurrence and continuation of which provide the Company’s lenders with the right to exercise remedies against the Company and the collateral securing the Term Loan, including the Company’s cash. These events of default include, among other things, the Company’s failure to pay any amounts due under the Term Loan, a breach of covenants under the Credit Agreement, the Company’s insolvency and the insolvency of its subsidiaries, the occurrence of a material adverse event, the occurrence of any default under certain other indebtedness, and a final judgment against the Company in an amount greater than $1 million.
Also, in connection with the Term Loan, the Company paid to the Agent a commitment fee of $1 million on the Closing Date and is required to pay to the Agent other customary fees for facilities of this type. Total fees for the Term Loan were $2.8 million during the fiscal year 2015, which are included in deferred finance charges on the condensed consolidated balance sheet.Condensed Consolidated Balance Sheet. During the first quarter of 2016, in connection with the effectiveness of the Second Amendment, the Company paid to the Agent a loan modification fee of $0.5 million.
L/CLetter of Credit Agreement
On April 12, 2016, the Company entered into a credit agreement (the “L/C Agreement”) with Sterling National Bank (“Sterling”) under which Sterling has agreed to issue letters of credit from time to time at 100% margin against available funds in a cash collateral account maintained by the Company at Sterling. The maximum availability under the L/C Agreement is $9.5 million. The Company will pay Sterling a letter of credit fee equal to 1.75% on the daily amount available to be drawn under each outstanding letter of credit, which fee is payable in quarterly installments in arrears. The L/C Agreement matures on April 1, 2017 and replaces a letter of credit facility with a prior lender. The L/C Agreement contains representations, warranties, affirmative and negative covenants and events of default customary for facilities of this type. As of JuneSeptember 30, 2016 there were no$5.5 million letters of credit outstanding under the L/C Agreement.
The following table sets forth our long-term debt (in thousands):
| | | June 30, 2016 | | | December 31, 2015 | | | September 30, 2016 | | | December 31, 2015 | |
| Term loan | | $ | 41,510 | | | $ | 42,124 | | | $ | 41,734 | | | $ | 42,124 | |
| Finance obligation | | | 3,355 | | | | 9,672 | | | | 1,678 | | | | 9,672 | |
| Capital lease-property (with a rate of 8.0%) | | | - | | | | 3,899 | | | | - | | | | 3,899 | |
| | | | 44,865 | | | | 55,695 | | | | 43,412 | | | | 55,695 | |
| Less current maturities | | | (13,355 | ) | | | (10,114 | ) | | | (11,678 | ) | | | (10,114 | ) |
| | | $ | 31,510 | | | $ | 45,581 | | | $ | 31,734 | | | $ | 45,581 | |
As of JuneSeptember 30, 2016, we had outstanding loan commitments to our students of $31.7$36.3 million, as compared to $33.4 million at December 31, 2015. Loan commitments, net of interest that would be due on the loans through maturity, were $23.6$27.3 million at JuneSeptember 30, 2016, as compared to $24.8 million at December 31, 2015. Loan commitments decreased as a result of lower population and fewer campuses.
Contractual Obligations
Long-term Debt. As of JuneSeptember 30, 2016, our current portion of long-term debt and our long-term debt consisted of borrowings under our Term Loan.
Lease Commitments. We lease offices, educational facilities and equipment for varying periods through the year 2030 at base annual rentals (excluding taxes, insurance, and other expenses under certain leases).
The following table contains supplemental information regarding our total contractual obligations as of JuneSeptember 30, 2016 (in thousands):
| | | Payments Due by Period | | | Payments Due by Period | |
| | | Total | | | Less than 1 year | | | 1-3 years | | | 3-5 years | | | More than 5 years | | | Total | | | Less than 1 year | | | 1-3 years | | | 3-5 years | | | More than 5 years | |
| Term Loan (including interest) | | $ | 55,879 | | | $ | 14,384 | | | $ | 13,601 | | | $ | 27,894 | | | $ | - | | | $ | 54,579 | | | $ | 14,952 | | | $ | 39,627 | | | $ | - | | | $ | - | |
| Operating leases | | | 106,644 | | | | 21,200 | | | | 37,706 | | | | 24,520 | | | | 23,218 | | | | 101,388 | | | | 21,161 | | | | 36,499 | | | | 21,873 | | | | 21,855 | |
| Total contractual cash obligations | | $ | 162,523 | | | $ | 35,584 | | | $ | 51,307 | | | $ | 52,414 | | | $ | 23,218 | | | $ | 155,967 | | | $ | 36,113 | | | $ | 76,126 | | | $ | 21,873 | | | $ | 21,855 | |
Off-Balance Sheet Arrangements
We had no off-balance sheet arrangements as of JuneSeptember 30, 2016, except for surety bonds. As of JuneSeptember 30, 2016, we posted surety bonds in the total amount of approximately $14.9 million.million which are partially backed by letters of credit. Cash collateralized letters of credit of $6.6$6.2 million are primarily comprised of letters of credit for the DOE and security deposits in connection with certain of our real estate leases. These off-balance sheet arrangements do not adversely impact our liquidity or capital resources.
Regulatory Update
Cohort Default Rates
In September 2016, the DOE released the final cohort default rates for the 2013 federal fiscal year. These are the most recent final rates published by the DOE. The rates for our existing institutions for the 2013 federal fiscal year range from 10.5% to 15.4%. None of our institutions had a cohort default rate equal to or greater than 30% for the 2013 federal fiscal year.
Accreditation
As previously disclosed, accreditation by an accrediting agency recognized by the DOE is required for one of Lincoln’s institutions to be certified to participate in Title IV Programs. As of September 30, 2016, one of our institutions comprised of 13 campuses are accredited by the Accrediting Council for Independent Colleges and Schools, or ACICS. However, on September 22, 2016, a senior DOE official issued a decision terminating the DOE’s recognition of ACICS as a nationally recognized accrediting agency and denying ACICS’s petition for DOE recognition. ACICS has appealed the decision to the DOE Secretary. If unsuccessful in this appeal, ACICS may appeal further to Federal court; however, unless otherwise directed by the court, such appeal would not stay the decision of the DOE Secretary. This institution is classified as held for sale and discontinued operations in the condensed consolidating financial statements as of September 30, 2016.
Lincoln’s current Program Participation Agreement for the institution in question is valid through June 30, 2020, however, if ACICS is unsuccessful in its appeals and loses its DOE recognition, the DOE may (but is not required to) provisionally certify our ACICS-accredited institution and its campuses to continue participating in the Title IV programs for a period of up to 18 months and require the institution to apply for and obtain accreditation from another DOE-recognized accrediting body. In such event, the DOE could also impose conditions on our institution as part of the provisional certification. If such circumstances occur, our efforts to obtain accreditation of our ACICS-accredited institution from another DOE-recognized accrediting body could be unsuccessful and could result in the loss of the institution’s eligibility to participate in the Title IV programs which could require us to close the institution and its campuses and could have a material adverse effect on our business and results of operations. Even if such circumstances do not occur, the loss of DOE recognition of ACICS could result in, among other things, a loss of state authorization (and, in turn, Title IV eligibility), programmatic accreditation, and/or authorization to participate in certain state or federal financial aid programs and cause a decline in enrollments which could have a material adverse effect on our business and results of operations. Additionally, loss of accreditation of the institution could result in a default under the Company’s credit agreement. In addition, we have begun the process of obtaining accreditation by another nationally recognized accrediting agency.
Gainful Employment
As previously disclosed, the DOE has issued final regulations on gainful employment requiring each educational program to achieve threshold rates in at least one of two debt measure categories related to an annual debt to annual earnings ratio and an annual debt to discretionary income ratio. The final regulations became effective on July 1, 2015 and, in October 2016, the DOE issued the first draft gainful employment rates for each of our programs for the 2015 debt measure year. For the 2015 debt measure year, 60 of Lincoln’s programs achieved passing rates, 13 programs had rates that are in a category called the “zone,” and 5 programs had failing rates. The draft rates are subject to appeal and other adjustments and, therefore, may be subject to change before the DOE issues the final rates which are expected in early 2017.
Each of our programs with failing final rates will lose its Title IV eligibility if it also receives a failing rate for either of the 2016 or 2017 debt measure year. The gainful employment rates for the 2016 debt measure year are expected to be issued in late 2017. Our programs with rates in the zone are not subject to loss of Title IV eligibility unless they accumulate a combination of zone and failing rates for four consecutive years (or failing rates for two out of any three consecutive years) however, each program with a failing gainful employment rate will be required to provide warnings to prospective and currently enrolled students in those particular programs notifying them that, among other things, the program has not passed the gainful employment standards and could lose Title IV eligibility which could cause those students to lose access to Title IV funds and be required to find other means of paying for the program. Issuance of such warnings to those students could significantly impact enrollment which could have a material adverse effect on our business and results of operations. Moreover, the potential for one or more of these programs to lose their Title IV eligibility could trigger a requirement to submit a letter of credit or other financial protection to the DOE under the new Borrower Defense to Repayment Regulations that take effect on July 1, 2017. See “Borrower Defense to Repayment Regulations” below. The ongoing implementation of the gainful employment regulations could require us to eliminate certain educational programs, could result in the loss of our students’ access to Title IV program funds for the affected programs, and could significantly impact the rate at which students enroll in our programs which could have a material adverse effect on our business and results of operations.
Borrower Defense to Repayment Regulations
On November 1, 2016, the DOE published regulations regarding, among other things, a borrower’s ability to allege acts or omissions by an institution as a defense to the repayment of certain Title IV loans and the consequences to the borrower, the DOE, and the institution. The regulations which become effective on July 1, 2017 include a variety of requirements for implementing additional administrative policies and procedures, including the following: establishing expanded standards of financial responsibility which could in a requirement that we submit to the DOE a substantial letter of credit or other form of financial protection, requiring institutions to make disclosures to current and prospective students regarding the existence of certain circumstances whereby the institution is required to provide additional forms of financial protection to the DOE and/or where the institution has a loan repayment below DOE thresholds. We are still in the process of evaluating the impact of these new and complex regulations on our business which will pose a significant administrative burden and could result in additional risks to our business.
Program Review
On April 26, 2013, the DOE notified our Union, New Jersey campus that an on-site program review was scheduled to begin on May 20, 2013. The program review assessed the institution’s administration of Title IV programs in which the campus participated for the 2011-2012 and 2012-2013 award years. On September 30, 2016, the DOE issued a Program Review Report that required our Union campus to respond to information requests made in such report. Our Union campus is in process of responding to the Program Review Report.
Seasonality and Outlook
Seasonality
Our revenue and operating results normally fluctuate as a result of seasonal variations in our business, principally due to changes in total student population. Student population varies as a result of new student enrollments, graduations and student attrition. Historically, our schools have had lower student populations in our first and second quarters and we have experienced larger class starts in the third quarter and higher student attrition in the first half of the year. Our second half growth is largely dependent on a successful high school recruiting season. We recruit our high school students several months ahead of their scheduled start dates, and thus, while we have visibility on the number of students who have expressed interest in attending our schools, we cannot predict with certainty the actual number of new student enrollments and the related impact on revenue. Our expenses, however, typically do not vary significantly over the course of the year with changes in our student population and revenue. During the first half of the year, we make significant investments in marketing, staff, programs and facilities to meet our second half of the year targets and, as a result, such expenses do not fluctuate significantly on a quarterly basis. To the extent new student enrollments, and related revenue, in the second half of the year fall short of our estimates, our operating results could be negatively impacted. We expect quarterly fluctuations in operating results to continue as a result of seasonal enrollment patterns. Such patterns may change as a result of new school openings, new program introductions, and increased enrollments of adult students and/or acquisitions.
Outlook
Similar to many companies in the proprietary education sector, we have experienced significant deterioration in student enrollments over the last several years. This can be attributed to many factors including the economic environment and numerous regulatory changes such as changes to admissions advisor compensation policies, elimination of the ability-to-benefit (“ATB”), changes to the 90/10 Rule and cohort default rates, gainful employment and modifications to Title IV amounts and eligibility. While the industry has not returned to growth the trends are far more stable as declines have slowed.
As the economy continues to improve and the unemployment rate continues to decline our student enrollment is negatively impacted due to a portion of our potential student base entering the workforce prematurely without obtaining any post-secondary training. Offsetting this short term decline in available students is the fact that an increasing number of the “baby boom” generation are retiring from the workforce. The retirement of baby boomers coupled with a growing economy has resulted in additional employers looking to us to help solve their workforce needs. With schools in 15 states, we are a very attractive employment solution for large regional and national employers.
To fund our business plans, including any anticipated future losses, purchase commitments, capital expenditures, principal and interest payments on borrowings and to satisfy the DOE financial responsibility standards, we have entered into a new Credit Agreement described above and continue to have the ability to sell our assets that are classified as held for sale. We are also continuing to take actions to improve cash flow by aligning our cost structure to our student population.
On November 3, 2015, our Board of Directors approved a plan for us to divest our Healthcare and Other Professions business segment. Implementation of the plan results in our operations focused solely on the Transportation and Skilled Trades business segment. Due to the Board’s decision to divest the Healthcare and Other Professions business segment, this segment was classified as discontinued operations and asset and liabilities classified as held for sale.
| Item 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
We are exposed to certain market risks as part of our on-going business operations. On July 31, 2015, the Company repaid in full and terminated a previously existing revolving line of credit with the proceeds of a new $45 million Term Loan. Our obligations under the Term Loan are secured by a lien on substantially all of our assets and our subsidiaries and any assets that we or our subsidiaries may acquire in the future. Outstanding borrowings bear interest at the rate of 11.0% as of JuneSeptember 30, 2016. As of JuneSeptember 30, 2016, we had $44.3 million outstanding under the Term Loan.
Based on our outstanding debt balance as of JuneSeptember 30, 2016, a change of one percent in the interest rate would have caused a change in our interest expense of approximately $0.4 million, or $0.02 per basic share, on an annual basis. Changes in interest rates could have an impact however on our operations, which are greatly dependent on students’ ability to obtain financing. Any increase in interest rates could greatly impact our ability to attract students and have an adverse impact on the results of our operations. The remainder of our interest rate risk is associated with miscellaneous capital equipment leases, which is not significant.
(a) Evaluation of disclosure controls and procedures. Our Chief Executive Officer and Chief Financial Officer, after evaluating the effectiveness of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)) as of the end of the quarterly period covered by this report, have concluded that our disclosure controls and procedures are adequate and effective to reasonably ensure that material information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified by the Securities and Exchange Commission’s Rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
(b) Changes in Internal Control Over Financial Reporting. There were no changes made during our most recently completed fiscal quarter in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II. OTHER INFORMATION
In the ordinary conduct of our business, we are subject to periodic lawsuits, investigations and claims, including, but not limited to, claims involving students or graduates and routine employment matters. Although we cannot predict with certainty the ultimate resolution of lawsuits, investigations and claims asserted against us, we do not believe that any currently pending legal proceeding to which we are a party will have a material adverse effect on our business, financial condition, results of operations or cash flows.
On December 15, 2015, the Company received an administrative subpoena from the Attorney General of the State of Maryland. Pursuant to the subpoena, Maryland’s Attorney General has requested from the Company documents and detailed information relating to its Columbia, Maryland campus. The Company has responded to this request and intends to continue cooperating with the Maryland Attorney General’s Office.
On July 1, 2016, New England Institute of Technology at Palm Beach, Inc. (“NEIT”), a wholly-owned subsidiary of the Company, entered into a purchase and sale agreement (the “WPB Sale Agreement”) with School Property Development Metrocentre, LLC (“SPD”), pursuant to which NEIT has agreed to sell to SPD the real property owned by NEIT located at 2400 and 2410 Metrocentre Boulevard East, West Palm Beach, Florida, including the improvements and other personal property located thereon (the “WPB Property”) for a cash purchase price of approximately $15.9 million. The WPB Sale Agreement contains customary representations, warranties, covenants and conditions to closing for agreements of this type.
Concurrently with the closing of the sale of the WPB Property and pursuant to the WPB Sale Agreement, NEIT will enter into a short-term lease agreement (the “WPB Lease”) with SPD under which NEIT will lease back the WPB Property for continued use as a school in order to allow the teach-out of currently enrolled students. The monthly rental obligation under the WPB Lease is $100,000 plus the direct payment by NEIT of all real estate and other taxes and utility charges assessed against the WPB Property. The term of the WPB Lease will run from the closing date through March 31, 2017, subject to extension at the option of NEIT for three additional months through June 30, 2017. Upon the closing, as required by the Company’s credit agreement with its lender, the Company will repay, from the net cash proceeds of the sale, $10 million of the principal amount of its term loan, plus a $.5 million prepayment premium and accrued interest on the amount repaid. The Company expects that, assuming all conditions to closing are met, it will close on the sale in the third quarter of 2016.
The foregoing description does not purport to be complete and is qualified in its entirety by reference to the full text of the WPB Sale Agreement filed as Exhibit 10.1 to this Quarterly Report on Form 10-Q, which is incorporated herein by reference.
On August 3, 2016, the Company issued a press release reporting its financial results for the fiscal quarter ended June 30, 2016, a copy of which is attached as Exhibit 99.1 to this Quarterly Report on Form 10Q.
Exhibit Number | Description |
| | |
10.1 *10.1(1) | Purchase and Sale Agreement dated July 1, 2016 between New England Institute of Technology at Palm Beach, Inc. and School Property Development Metrocentre, LLC |
| | |
10.2(1)10.2(2) | CreditEmployment Agreement dated as of April 12,August 23, 2016 among Lincoln Educational Services Corporationbetween the Company and Lincoln Technical Institute, Inc.Scott M. Shaw |
| |
| 10.3(3) | Employment Agreement dated August 23, 2016 between the Company and its subsidiaries, and Sterling National BankBrian K. Meyers |
| | |
| 31.1 * | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
| 31.2 * | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
| 32 * | Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| | |
| 101** | The following financial statements from Lincoln Educational Services Corporation’s Quarterly Report on Form 10-Q for the quarter ended JuneSeptember 30, 2016, formatted in XBRL: (i) Condensed Consolidated Statements of Operations, (ii) Condensed Consolidated Balance Sheets, (iii) Condensed Consolidated Statements of Cash Flows, (iv) Condensed Consolidated Statement of Changes in Stockholders’ Equity, and (v) the Notes to Condensed Consolidated Financial Statements, tagged as blocks of text and in detail. |
| (1) | Incorporated by reference to Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on August 9, 2016. |
| (2) | Incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on April 18,August 25, 2016. |
| (3) | Incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on August 25, 2016. |
| ** | As provided in Rule 406T of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934. |
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.
| | | LINCOLN EDUCATIONAL SERVICES CORPORATION |
| | | | |
| Date: | August 9, November 7, 2016 | By: | /s/ Brian Meyers | |
| | | Brian Meyers | |
| | | Executive Vice President, Chief Financial Officer and Treasurer |
Exhibit Index
| 10.1(1) | Purchase and Sale Agreement dated July 1, 2016 between New England Institute of Technology at Palm Beach, Inc. and School Property Development Metrocentre, LLC |
| | |
10.2(1)
10.2(2) | CreditEmployment Agreement dated as of April 12,August 23, 2016 among Lincoln Educational Services Corporationbetween the Company and Lincoln Technical Institute, Inc.Scott M. Shaw |
| |
| 10.3(3) | Employment Agreement dated August 23, 2016 between the Company and its subsidiaries, and Sterling National BankBrian K. Meyers |
| | |
| Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
| Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
| Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| | |
| 101** | The following financial statements from Lincoln Educational Services Corporation’s Quarterly Report on Form 10-Q for the quarter ended JuneSeptember 30, 2016, formatted in XBRL: (i) Condensed Consolidated Statements of Operations, (ii) Condensed Consolidated Balance Sheets, (iii) Condensed Consolidated Statements of Cash Flows, (iv) Condensed Consolidated Statement of Changes in Stockholders’ Equity, and (v) the Notes to Condensed Consolidated Financial Statements, tagged as blocks of text and in detail. |
| (1) | Incorporated by reference to Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on August 9, 2016. |
| (2) | Incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on April 18,August 25, 2016. |
| (3) | Incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on August 25, 2016. |
| ** | As provided in Rule 406T of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934. |