Element Solutions Inc (ESI) Q3 2013 Earnings Report, Transcript and Summary

Greetings, ladies and gentlemen, and welcome to the ITT Educational Services 2013 Third Quarter Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded. Joining us today from the management of ITT Educational Services, we have Kevin Modany, Chief Executive Officer and Chairman; and Dan Fitzpatrick, Executive Vice President and Chief Financial Officer. Before we begin, ITT Educational Services, Inc. wishes to remind you that this conference call may include forward-looking information. Actual results may differ from the information presented during this call. For additional information, please review the section on forward-looking information contained in today's news release or in the company's public filings with the Securities and Exchange Commission. Thank you. Mr. Modany, you may begin.

Thank you, operator. Good morning, ladies and gentlemen, and thank you for joining us on our conference call to review the third quarter 2013 results. As usual, Dan Fitzpatrick, our Executive Vice President and Chief Financial Officer, is with me on today's call. In our prepared remarks, we plan to provide additional color on the enrollment results that we reported this morning. We will also provide an update on a few of our key focus areas for the company, as well as a brief update on the regulatory matters. Following my prepared comments, I will turn the call over to Dan, who will provide additional remarks regarding the financial results that we reported earlier this morning. At the conclusion of our prepared comments, we will open the lines for your questions. We will try to be as efficient with our prepared comments as possible so as to provide you with ample time to ask any questions you may have. With that said, let's begin with the new student enrollment results reported this morning. We continue to experience solid demand for our programs of study as prospective student inquiries in the third quarter of 2013 remains fairly consistent with the third quarter of 2012. Inquiries from prospective students declined slightly but remained relatively steady year-over-year, supported by a 3% year-over-year increase in advertising expenditures in the 2013 third quarter. As we previously indicated, based on our belief that prospective students are increasingly sensitive to cost and debt levels, we have increased the availability of institutional scholarships for our current and prospective students through the Opportunity Scholarship. As we've discussed in our conference calls over the last several quarters, the Opportunity Scholarship is an institutional scholarship intended to help reduce the cost of an ITT Technical Institute education and to increase access to our career-based technology and health sciences-related programs of study. In the 3 months ended September 30, 2013, $47.4 million in scholarships and awards were provided to our students compared to $16.6 million in the same period in the prior year. As of September 30, 2013, all 148 ITT Technical Institute locations were offering the Opportunity Scholarship to eligible, current and prospective students. And we currently plan to continue offering the Opportunity Scholarship for the remainder of 2013 and beyond. We believe that the Opportunity Scholarship contributed to the 400-basis-point improvement and the rate at which student applications converted to new student enrollments in the third quarter of 2013 compared to the same prior year period. At the start of the 2013 third quarter, we had approximately 260 fewer admissions representatives and at the same point in the prior year. However, the efficiency of our admissions representative, as measured by the number of first-time new students per representative, increased approximately 29% in the third quarter of 2013 compared to the same period in 2012. As we reported in our earnings release this morning, new student enrollment in the 2013 third quarter increased 5.2% compared to the same period in the prior year. The 5.2% increase included new student enrollment at both the ITT Technical Institute and Daniel Webster College. A year-over-year increase in new student enrollment in the 2013 third quarter was the second consecutive quarter of a year-over-year increase in new students. Total student enrollment at the ITT Technical Institute and Daniel Webster College as of September 30, 2013, declined 7.1% compared to the same point in the prior year. The total student enrollment at the ITT Technical Institute declined 7.3%, while total student enrollment at Daniel Webster College increased 4.5% as of September 30, 2013 compared to September 30, 2012. Consistent with recent earnings calls, we'd like to provide you with some programmatic color on the new student enrollment results in the third quarter of 2013. New student enrollment in the Drafting, Electronics Engineering and Network Administration associate degree programs increased 6.4%, 20.5% and 6.8%, respective in the 2013 third quarter compared to the 2012 third quarter and represented 60% of the new student enrollment at the ITT Technical Institute in the 2013 third quarter compared to 56% in the 2012 third quarter. New student enrollment in the Registered Nursing program offered by the Breckinridge School of Nursing and Health Sciences increased 6.3% in the third quarter of 2013 compared to the same period in the prior year. Students pursuing a program in the Breckenridge School of Nursing and Health Sciences at the ITT Technical Institutes represented 10% of the total student census as of September 30, 2013 compared to 8% of the total student census as of September 30, 2012, and 6% of the September 30, 2011. New student enrollment in the School of Business, which includes our Bachelor Degree program in Project Management, increased 23.8% in the 3 months ended September 30, 2013, compared to the third quarter of 2012. Students pursuing a program in the School of Business at the ITT Technical Institute represented 9% of the total student census as of September 30, 2013, compared to 6% as of September 30, 2012, and 3% as of September 30, 2011. Students enrolled in the Project Management-related programs of study represented the largest program cohort in the School of Business as of September 30, 2013. New student enrollment in the School of Criminal Justice decreased 34% in the third quarter of 2013 compared to the same prior year period. Students pursuing a program in the School of Criminal Justice at ITT Technical Institute represented 9% of the total student census as of September 30, 2013, compared to 15% as of September 30, 2012, and 19% as of September 30, 2011. Part of our growth strategy involves introducing new programs of study throughout our national footprint of 148 locations. We added 147 and eliminated 111 credit-based degree offerings across our colleges in the 2013 third quarter. We've brought a little more color on our programmatic efforts for the academic period that began in September 2013. Three of our campuses offered our new associate degree program in Medical Assisting and Administration, and 6 additional colleges are scheduled to offer this program in the academic period that begins in December 2013. Eight of our campuses offered the new associate degree program in Industrial Engineering Technology and an additional 9 colleges are scheduled to offer the new IET program in the academic period that begins in December 2013. And 37 of our campuses offered our new associate degree program in Software Development, and 27 additional schools are scheduled offered the program in the academic period that begins in December 2013. We're still very early in our programmatic expansion efforts for these 3 new degree programs, as evidenced by the fact that the total new student enrollment in these new degree programs represented only 3% of the new student enrollment in the third quarter of 2013. Switching now to a discussion of student persistence. Student persistence declined 40 basis points as of September 30, 2013, compared to the same date in the prior year. The decrease in student persistence as of September 30, 2013, compared to September 30, 2012, was primarily due to a decrease in student retention in the 3 months ended September 30, 2013, compared to the same prior year period. The decrease in student retention was primarily attributed to lower student retention in a few courses that are delivered in the early portions of certain associate degree programs of study and an increase in the number of students who are enrolled in hybrid courses, at which a portion of the course is delivered in resident and a portion is delivered online and which generally have lower student retention rate. As we reported in our July 2013 conference call, these early-quarter courses have undergone a comprehensive curriculum review and redesigns by members of our academic team. Our academic and curricular teams have completed the majority of the curriculum redesign and development activity, and we expect to test the revised courses at a few of our campuses in the academic period that begins in December 2013. Further, we reduced the percentage of our students participating in hybrid courses in the academic period that began in September 2013, compared to the most recently completed academic period that began in June 2013. Moving on, we'd like to provide you with a brief update on our graduate employment metrics. We are pleased to report today that as of October 14, 2013, the average annual salary reported by our 2013 ITT Technical Institute employee graduates increased 1.7% compared to the average annual salary reported by our 2012 ITT Technical Institute employee graduates as of the same date in 2012. We're even more excited to report that as of October 14, 2013, the graduate employment rate of our 2013 ITT Technical Institute employable graduates was 380 basis points higher than the graduate employment rate of our 2012 ITT Technical Institute employable graduates as of the same date in 2012. We believe the year-over-year improvements in the graduate employment metrics are primarily related to the change of mix in graduates in the 2013 cohort, which includes more graduates from our core technical areas of study compared to the 2012 cohort, a slight improvement in the job market related to these core technical areas and a reduction in the number of grads in the 2013 cohort compared to the 2012 cohort. While we are pleased with the improving in graduate employment metrics, we believe we have more work to do to continue to improve these student outcomes. Moving onto a brief update on a few strategic matters. On August 1, 2013, we acquired Cable Holdings for approximately $7 million in cash, net of cash acquired. Cable Holdings is an education company that operates under the name of Benchmark Learning and offers short-term information technology and business learning solutions for career advancers and other professionals. Our strategic plans include the programmatic Benchmark Learning solutions throughout our ITT Technical Institute campus network as we integrate its operations into the Center for Professional Development at ITT Technical Institute. In the third quarter of 2013, we added 283 non-credit short-term programs that are being offered online and in resident through this Center for Professional Development in ITT Technical Institute. We anticipate initiating efforts to solicit the requisite regulatory approvals for the Center of Professional Development to offer an additional 900 non-credit short-term programs in the fourth quarter of 2013, and expect to seek an additional approval for related programs throughout 2014 and beyond. We plan to continue to evaluate additional opportunities to expand the offerings at the Center for Professional Development through similar tuck-in acquisitions. However, we have nothing further to report on those related efforts in today's call. I'd like to move on now to talk about some of our efficiency initiatives. In our October 2012 conference call, we discussed our internal goal to reduce our annual operating expenses by approximately $50 million through various operational efficiency initiatives. Based on the actions we have taken through the end of 2013 third quarter, we believe we're well-positioned to achieve that savings target for the full year of 2013. As part of our efforts to maximize the efficiency and effectiveness of our national network of campus locations, we relocated 4 of our campuses into existing facilities of other ITT Technical Institute campuses at faults. Our West Covina, California campus was relocated, too, and now shares the same facility as our San Dimas, California campus. The ITT Technical Institute in Germantown, Wisconsin was relocated and now shares the same facility as our Greenfiled, Wisconsin campus. Both of those campuses are located in suburbs of Milwaukee. We also relocated the Grand Rapids, Michigan campus into the same facilities as our Wyoming, Michigan campus. And lastly, we relocated our Deerfield Beach, Florida campus to the facilities housing our ITT Technical Institute in Fort Lauderdale, Florida. None of the 4 relocated campuses enrolled any new students in the third quarter of 2013. We also suspended the enrollment of new students at our ITT Technical Institute campus in Cedar Rapids, Iowa, and the campus in Bradenton, Florida until we determine whether to continue operations at those campuses. To give you a sense of the year-over-year impact of these initiatives, the new student enrollment at the affected campuses represented approximately 1.4% of the total new student enrollment in the third quarter of 2012. In the third quarter of 2013, we recorded a charge of $3.3 million related to the cost associated with the relocated campuses. We expect to continue evaluating the efficiency and effectiveness of our campus footprint. However, we didn't have any additional announcements to make today regarding pending campus relocations and/or suspensions of enrollments and did not anticipate any major changes to the campus network at this time. There are no material updates derived today with regard to other key focus areas for the organization. However, if you have any questions on topics that we did not address in our prepared remarks, we'd be happy to address them during the Q&A session. Before I turn the call over to Dan, I'd like to provide a brief update on a few regulatory matters. As we previously reported on May 18, 2012, we received a Civil Investigative Demand or CID from the U.S. Consumer Financial Protection Bureau or CFPB. The CFPB's original CID provided that the purpose of the investigation was in part to determine whether full profit post-secondary education companies, student loan origination and servicing providers or other unnamed person have engaged or are engaging in unlawful acts or practices related to the advertising, marketing or origination of private student loan. The CFPB's original CID contains broad request for production of documents, answers to interrogations and written reports related to private education loans made to our students and many other aspects of our business. We've provided documentation and other information to the CFPB, while preserving our rights to object to its inquiry. In August of 2012, we found a -- filed a petition with the CFPB to set aside or modify the CFPB's original CID. In September 2013, the CFPB withdrew the original CID, and we received a new CID from the CFPB. The purpose of the CFPB's investigation as provided in the new CID is the same as the purpose stated in the original CID. While the scope of the information requested in the new CID is somewhat narrower than in the original CID, the new CID contains broad requests for oral testimony, production of documents and written reports related to private education loans made to our students, internal financing provided to our students and certain other aspects of our business. In connection with the CFPB's withdrawal of their original CID and issuance of a new CID, we withdrew our petition to set aside or modify our CFPB's original CID while preserving our rights to object to the new CID. We have begun assembling documentation and other information to provide to the CFPB while preserving our rights to object to it's inquiry. We continue to believe that our acts and practices relating to private education loans are lawful. Turning now to an update on the SEC's subpoena that we received on February 8, 2013. As we have previously disclosed in a letter accompanying the subpoena, the SEC states that it's conducting an investigation of us. The SEC's subpoena request the production of documents and communications that, among other things, relate to our actions and accounting associated with agreements that we entered into with the 2009 entity to create the 2009 loan program, including, without limitation, the 2009 RSA and agreements that we entered into to create the PEAKS Program. On May 9, we received the second subpoena from the SEC requesting the production of certain communication relating to the same subject matter as the subpoena received on February 8, 2013. We are cooperating with the SEC in its investigation and we have provided documentation, communication and other information, including testimony of one of our officers to the SEC in response to both subpoenas. We continue to believe that our actions, accounting and related disclosures for private education loans to be accurate and appropriate. And lastly, before I turn the call over to Dan, I'd like to reiterate the disclosure in this mornings earnings release that we have adjusted our internal EPS goal for 2013 from the range of $3.50 to $4 to the revised range of $4 to $4.20. And now let me turn the call over to Dan, who will provide you with some additional color on the financial results reported this morning. Dan?

Thanks, Kevin. I'd like to start by providing a brief overview of the results reported in this morning's earnings release. Revenue decreased $55.3 million or 17.6% to $259.4 million in the 3 months ended September 30, 2013, compared to $314.7 million in the 3 months ended September 30, 2012. The primary factors that contributed to this decrease included: an increase in institutional scholarships and awards provided to our students, which reduced revenue by $34.2 million in the 3 months ended September 30, 2013, compared to the same prior year period; an 11.7% decrease in total student enrollment as of June 30, 2013, compared to June 30, 2012; and a 7.1% decrease in total student enrollment as of September 30, 2013, compared to September 30, 2012. The increase in institutional scholarships and awards was due primarily to the introduction of the Opportunity Scholarship at the vast majority of the ITT Technical Institute campuses in the academic quarter that began in March 2013. The cost of educational services decreased $12 million or 8.9% to $122 million in the 3 months ended September 30, 2013, compared to $133.9 million in the 3 months ended September 30, 2012. The primary factors that contribute to this decrease was a decrease in compensation and benefit costs resulting from fewer employees, which was partially offset by an increase in legal costs. Cost of educational services as a percentage of revenue increased 440 basis points to 47% in the 3 months ended September 30, 2013, compared to 42.6% in the 3 months ended September 30, 2012. The primary factors that increased -- that contributed to this increase were a decline in revenue and an increase in legal costs, which were partially offset by decreases in compensation and benefit costs. Student services and administrative expenses decreased $10.1 million or 9.9% to $99.1 million in the 3 months ended September 30, 2013, compared to $110 million in the 3 months ended September 30, 2012. The principal causes of this decrease were decreases in compensation and benefit costs and bad debt expense. Student services and administrative expenses increased to 38.2% of revenue in the 3 months ended September 30, 2013, compared to 35% in the 3 months ended September 30, 2012. The principal cause of this increase was the decline in revenue, which was partially offset by decreases in compensation and benefit costs and bad debt expense. Bad debt expense as a percentage of revenue decreased to 6.9% in the 3 months ended September 30, 2013, compared to 7.3% in the 3 months ended September 30, 2012, primarily as a result of the increased used by our students of institutional scholarships and awards. Based on the amount of Opportunity Scholarships that we estimate may be awarded in 2013, we believe that the Opportunity Scholarships, as well as, to a lesser extent, other factors, will have the effect of reducing our revenue per student by approximately 4% to 6% for the full year 2013 compared to 2012, and may result in our bad debt expense as a percentage of revenue being approximately 7% for the full year of 2013. In the 3 months ended September 30, 2013, we recorded a loss of $6.2 million for additional reserves primarily related to our guarantee obligations under the 2009 RSA and PEAKS Program, which I'll refer to collectively as the RSAs. In determining the contingent liability amount to be recorded related to the RSA at the end of each reporting period, we, with the assistance of our third-party consumer credit consultants, evaluate a variety of data related to our repayment performance under the private education loans under the RSAs, including but not limited to: the payment and default trends by month in which the private education loans entered repayment; the payment at the fall trends based on the education completion status achieved by the borrower, specifically whether the borrower graduated or withdrew from his or her program of study; the payment status of loans in repayment, specifically whether the loans are current or delinquent; the status of loans that are not in repayment, specifically whether a payment is deferred because the borrower is in school for some other reasons; whether the loan is in the grace period after the borrower leaves school or is in forbearance; and the academic standing of borrowers who have not yet entered repayment. Going to 3 months ended September 30, 2013, certain of these data that we evaluate were trending unfavorably compared to the immediate preceding evaluation, which caused us to increase the estimated default rate used in our analysis of the contingent liability by an average approximate rate of 57% to an average approximate rate of 59%. As of September 30, 2013, our recorded liability for claims and contingencies, including those related to litigations, business transactions, guarantee arrangements, employee-related matters and miscellaneous other matters was $81.2 million, $40 million of this recorded liability related to our guarantee obligations under the PEAKS Program; $32.9 million related to our guarantee obligations under the 2009 RSA; and $8.3 million related to other claims and contingencies. Approximately $43.3 million of the $81.2 million of the recorded liability was included in our other current liabilities, and approximately $37.9 million was included in other liabilities were in condensed consolidated balance sheet as of September 30, 2013. We believe that the $37.9 million included in other liabilities as of September 30, 2013, will be realized over the next 7 to 10 years related to our estimated guaranty obligations under the RSAs. We believe that it is reasonably possible that we may incur losses in an estimated range of $9 million less than the $41 million greater than the recorded liability related to our guarantee obligations under the RSA. Moving on to a few additional items from the financial results reported this morning. Operating income decreased $38.7 million or 54.7% to $32.1 million in the 3 months ended September 30, 2013, compared to $70.8 million in the 3 months ended September 30, 2012, primarily as a result of the factors I just discussed in connection with revenue and operating expenses. Our operating margin decreased to 12.4% in the 3 months ended September 30, 2013, compared to 22.5% in the 3 months ended September 30, 2012, primarily as a result of the impact factors that I just discussed. Net income decreased $0.2 million to $0.7 million in the 3 months ended September 30, 2013, compared to $0.9 million in the 3 months ended September 30, 2012, due primarily to reduced weighted average borrowings under our revolving credit facility. Our combined federal and state effective income tax rate was 39.9 -- 39.6% in the 3 months ended September 30, 2013, compared to 38.7% in the 3 months ended September 30, 2012. The effective income tax was lower in the 3 months ended September 30, 2012, primarily to the reversal of an unrecognized benefit accrual related to items with respect to which the statute of limitations have lapsed. I'll now transition to a few key liquidity and capital resource items for the third quarter of 2012 -- 2013. Cash and cash equivalents were $168.7 million as of September 30, 2013, compared to $246.3 million as of December 31, 2012, and $174.5 million as of September 30, 2012. Cash and cash equivalents as of September 30, 2013, decreased $77.6 million compared to December 31, 2012, primarily due to a payment of $46 million made in January 2013 in a settlement to absolve us from any further obligations with respect to our guarantee obligations under an earlier private loan program. A net repayment of $80 million in outstanding borrowings under our revolving credit facility in the 9 months ended September 30, 2013 in the purchase of Cable Holdings for approximately $7 million. The decreases -- these decreases were partially offset by cash generated from operating activities. Accounts receivable less allowance for doubtful accounts was $119.5 million as of September 30, 2013, compared to $89.4 million as of September 30, 2012. Days sales outstanding increased 16.3 days to 42.4 days at September 30, 2013, compared to 26.1 days as of September 30, 2012. At this point, I'd like to reiterate a couple of our other financial goals for 2013. Revenue per student full year 2013 versus 2012 in the range of down 6% to down 4%. EBITDA in the range of $185 million to $195 million. Please note the projected EBITDA is a non-GAAP financial measure. A reconciliation of projected EBITDA to our projected net income can be found on our website at www.ITTESI.com. Lastly, I'll be happy to entertain any questions that you may have regarding our financial metrics included in our earnings release this morning that we didn't touch upon on our prepared remarks. With that, I'll turn the call back over to Kevin.

Thanks, Dan. At this point, we've concluded our prepared remarks. Operator, will you open the line for questions, please?

[Operator Instructions] And our first question comes from Sara Gubins from Bank of America.

I have 2 questions. The first is nice to see new students starts at still positive. Could you just give us any signs of how you're thinking about headed into the fourth quarter, and kind of any early indications? And then second, it looks like you own over 40 of your facilities and headquarters and I'm wondering, do you think that there's any opportunity to try to monetize those, maybe to help reduce the exposure to the RSA or PEAKS?

Thanks, Sara. I'll take the first one. As far as new student starts and kind of leading indicators going into Q4, lead flow, fairly steady. I'm sure someone will have a question on this, so I'll address it a little bit proactively. Implementation on the TCPA, Telecommunications Protection Act, and some of the requirements associated with obtaining consents. We implemented the requisite -- requirements there with all of our vendors and had a few vendors that have a little bit of a challenge getting that started, so we were a little bit in the hole with a couple of vendors, advertising vendors for a couple weeks. And we've sense, gotten through that. We're back on track from the lead flow perspective. Production is back on track. And so we're cautiously optimistic that maintaining trends is a realistic possibility. We're stopping short of giving any kind of guidance on what we expect. But again, early indicators absent some of those disruptions seem to suggest that similar type trends are possible heading into Q4. Your second part, I think relative to liquidity. We currently own 29 of our facilities that we operate around the country. They are unencumbered, so there is an opportunity to create some liquidity there if and when we think that would be an appropriate thing to do. So it's an available source of capital for us for sure. We've certainly explored the different options that are available there. At this point in time, it's not something that we think we need to go after, but it's certainly something that we have on the shelf if we need to. So yes, it's available and something we could initiate -- a transaction we could initiate to generate liquidity.

And our next question comes from Peter Appert from Piper Jaffray.

So you obviously had great success here in terms of the cost reduction efforts. And I'm just wondering if you can talk about how you see the opportunity for more, what there is left to do. Is there opportunity to further reduce cost going into '14? And then just for Dan, a specific accounting question. The $43 million of current liability, so basically, that has to be recognized over the next 4 quarters. So we should be thinking about maybe $11 million a quarter in terms of charges related to that? Is that the proper way to think about that?

Sure, Peter. On the cost reduction efforts, I think we had set up a target for about $15 million in cost reduction. We talked about that a little bit on the prepared comments. This does kind of measure where we are at this point. If you go back and look at the trailing 12, I think you see operating costs down close to $80 million, and which obviously leads us to have the confidence relative to your comments that we will achieve those targets. In essence, we started this in Q4 '12, so we've pretty much gotten what we went after and then some and more. As far as opportunities going forward, there aren't a ton of opportunities right now, so we're throwing another target out there, we're not throwing another bogey out there right now. I think the bigger story for us right now is increasing enrollment, growing the top line, leveraging the cost structure. Certainly, we'll continue to focus on efficiencies and opportunities for us to reduce cost, and we will always do that. But I think the story going into '14 and beyond is really more of a top line leveraging story and leveraging other costs that are in place today. So I wouldn't anticipate a significant amount of additional cost reduction going forward at least at this juncture. Your second question, I'll turn it over to Dan, and he'll give you some color on that.

Yes, Peter. As for the portion that we've classified as current, that would be the estimate as to what the charges would be or what the cash outlay would be over the next 12 months, 4 quarters. I can't sit here and say it exactly plays out evenly as you describe, but that would be the estimate for the coming year.

[Operator Instructions] Our next question comes from Suzi Stein from Morgan Stanley.

How should we think about the revenue per student impact from the scholarships for next year? At what point will that flatten out?

Suzi, this is Dan. The -- we really don't expect it to move dramatically going forward. We've -- because of the front-loaded nature of this scholarship, we feel as though we've seen the lion's share of that, so I wouldn't expect it to move dramatically. That said, the scholarship is determined on a student-by-student basis. And so there is a little bit of movement. We're probably a little bit higher than folks anticipated this quarter for revenue per student. We still see a little bit of movement there, but we don't see it moving dramatically in one direction or the other going forward.

Okay. And then can you just address CapEx and where you expect to be? It's been running quite low. I'm just wondering if that's a sustainable level?

Well, a couple of things to consider. This year, we haven't opened any new schools. That has a big impact on CapEx. In the past few years, we've been summing around 10 schools a year. There's also the timing of when we have renovations and relocations and things like that. So this year, for a number of reasons, is a little bit down relative to what we would expect to see. I would think going forward, it would be back in line with 2-ish percent of revenue. That's where we've been over the past several years. I think that's a reasonable estimate going forward.

And our next question comes from Jason Anderson from Stifel.

Could you comment on the percent of students who have entered into repayment under PEAKS? And with that, you'd mentioned before that those entering in later are those that could be completers, could perform better? Are you seeing -- how is that stacking up to your expectations, or could you even comment on performance by completers and non-completers?

Sure. This is Kevin, and Dan will add any color that he feels is appropriate. We've got more than 50% of the borrowers in repayment at this point in time. So a pretty good population of people in the mix. Certainly, your expectation or comment that the folks that will enter later are more likely completers than not is accurate. That's very true. And it's also true that those folks will default at lower rates than those who don't complete. That is true and that is playing out in line with our expectations relative to that difference that exist between a completer and a non-completer. I'll just add that all of what I just said is factored into the reserve analysis as a default rate assumption. So don't I want to give the impression that there's some sort of upside relative to the fact that there are more grads now coming into repayments. That's factored in. So it should be represented in the mix that's utilized to calculate the projected default rate.

Our next question comes from Corey Greendale from First Analysis.

I guess 2 related questions, somewhat on the same topic there. Given that the economy has continued to improve, at least the labor market not getting worse, why do you think the experience on the private loans has been worse than your projections? And related on the bad debt, one would think the scholarship program, the fact that you're not doing the internal loans would be helping your bad debt. Why do you think we're not seeing that trend down yet?

Sure. So with regard to the performance on the loans and the employment market getting better, I mean, really, what we're seeing -- the impact of the job market on any repayment, it's a little bit of looking in the rears, I think you would agree on that. So that if there is an impact from the job market and we think there probably is, we're seeing it and we're dealing with it. And as it relates to those individuals that start down the wrong path in terms of repayment, I don't think there's been enough of an improvement in the job market that would reverse those trends per se. So I don't see any inconsistencies right now in what we're seeing. And I would also say that probably one of the largest factors that has impacted the repayment rates, or at least the significant ones without waiting, is the fact that we've experienced a lot of servicing disruptions, and that servicing has been extremely poor. So that's kind of disconnects it from the employment market. But I'm not telling you anything in that comment that you haven't heard from us before. So I just don't see any disconnect between what's happening on the employment front and what we're seeing on the repayment rates at this point. As far as the bad debt and the scholarships, you'll see -- we expect that you will see that the bad debt will continue to trend downwards. We still have a decent population of our student that, A, haven't yet been put through the repackaging efforts to obtain the Opportunity Scholarship, and who are a subset of the population that has the scholarship but doesn't have the Opportunity Scholarship, so they have a little lesser of a scholarship than they otherwise would once they get to the Opportunity Scholarship. In the coming quarters, again, we anticipate what you'll see is that the AOR and DSOs will go down correspondingly, bad debt goes down, and then the Opportunity Scholarship amounts may go up a bit. So that will play itself out over the next couple of quarters based on our projections.

Our next question comes from Tracy Urdan from Wells Fargo.

Hey, Kevin, I was a little -- I don't know why I was surprised, but I was surprised when you described how large Breckinridge has become as a percentage of the total census? And I wonder if you could just talk a little bit more broadly about that business? What you see as the ultimate opportunity? How big within your total student population mix do you think it could become? And then would you ever consider standalone campuses? And then maybe finally, just a comment on outcomes there in NCLEX pass rates and you're feeling about all of that?

Sure. So right now, the largest program there, I think, Trace, is the Nursing. That makes up the fastest overwhelming majority of the census right now, and we have it at 50 schools. So it is quite impressive that with 50 schools roughly, we've got 10% of our population. The opportunities going forward relative to how big can this thing get, I think will be two-fold: Continual expansion of the Nursing program, and that's going to be a little slower right now than it otherwise would. As you're all aware, it takes some time to get nursing approvals, and we're working our way through the approval process in a handful of states. And I think I've mentioned a couple of times, maybe 5 to 10 additional states or locations, if you will, in 2014 looks like a reasonable target for us. But obviously, that's a much slower pace than what we've seen. So we'll continue growing that way. But in addition to that, we're looking at programmatic expansion opportunities in and around Nursing and Health Sciences to help grow the Breckenridge School. We talked a little bit today in our prepared comments about Medical Assisting and Administration, that's a program that will be rolling out. There are a couple of other programs that we have in some stage of research and/or developments that we expect to be rolling out. So we would expect to see that the Breckenridge School would have somewhere between 3 to 5 program offerings in the mix in the next couple of years. With that, I would think that it's not unreasonable that we could see easily a doubling of the census over time. But again, I don't want to throw -- I probably shouldn't throw any specific targets. We're going to roll our programs, we're going to add to the mix and we're going to put some capital behind the effort to grow the school. I don't know that we have any plans at this point for standalone campuses. Again, I want to reference back to what the story is for us right now, and it's about taking advantage of capacity that we have by growing the top line and principally doing that through a programmatic expansion, degree programs, as well as non-degree programs, and we talked a little bit about that as well. And there could be some for Breckenridge non-degree continuing professional education type of programs that we may put into the Breckenridge school as well. So overall, in the outcomes front, I think that's the last part of your question, we've been generally pleased. I think we're tracking in line with what you would see historically for campuses that open associate degree programs, and we're kind of following that trend. So you see a little lower NCLEX pass rates in the initial phases of the program. And then as you get additional graduate pools, you'll see those rates rise. And it's our expectation that, overall, we'll be maintaining necessary NCLEX rates as required by the different state labs. But we're working our way there. So we're probably in the 80%-plus range right now, hoping to work it to higher ranges over time. I think I hit all your points straight. If I didn't, let me know.

Our next question comes from Jeff Volshteyn from JP Morgan.

I wanted to get a little more color on the scholarship program. Now that you have a couple of cohorts fully going through the process, could you give us a sense of what is the average amount that students are getting? And what is the net tuition before students can apply federal financial aid?

I appreciate the question, Jeff. I think it's a little early to give you exact figures on what the expectation or what the actual is relative to the net tuition for the full duration of the program since we only have students with a handful of quarters. We don't have anybody who has gone through the entire program with the Opportunity Scholarship yet -- as of yet. And because it is so student-dependent, the calculation, and based on the need and some academic components of the individual students, and those things can change on a quarter-by-quarter basis, I would stop short of giving you any actual numbers right now. However, we haven't seen anything in the actual results today that would suggest that our estimates that we previously provided are not correct. So they seem to be running in line with that. And I'll remind everyone, just to give a data point, and I think this would answer your question, but our projection based on our modeling with the Opportunity Scholarship suggests that an average debt balance for a graduate of the associate degree program should be in and around $20,000. So again, the actual experience -- we don't have enough to give you an actual number because I don't even one students who's been through it, but the early results are in line with that sort of projection and that model. That leaves us to project an average balance of $20,000 at this point.

And our next question comes from Paul Ginocchio from Deutsche Bank.

Kevin, that was a good lead into my question, just around the new gain for employment proposed regulation. It sounds from the $20,000 debt balance that you shouldn't have any problems. Obviously, the DOE is using some kind of data. When they -- if it does go through and rolls out, would you able to use this most current data? Because I think then you'd be -- most of your programs would be outweighed. Is that the right assumption?

I think that's probably the best assumption at this point. I'm very hesitant to speak to the regulation sense. It's sort of in-process right now. So I don't want to go too far out on a limb on that. But I believe based on projected and reported expectations for the effective date that using the $20,000 balance should be appropriate, should be correct, and we should see the graduates that are coming out at that point in time carrying those debt loads. So yes, a long-winded answer, but yes.

[Operator Instructions] And our next question comes from Timo Connor.

I understand you don't have direct operational control over the 2 outstanding risks on the agreements, but you've talked about the weaker-than-expected servicer performance. Is there any -- are there any changes that could potentially be made to improve that performance? And then the recovery rates on those risk sharing agreements?

Well, I think we have talked about this before, and I'll reiterate it. We have certainly requested a lot of changes and a lot of borrowing modifications and have requested modifications to their practices based on third-party experts who we've worked with that tell us that from small changes, some borrower modifications and a few other things could really help and should help and would help. And again, we've requested this those from the parties that manage these programs. Unfortunately, I have to report that we haven't had any success in convincing them to make those changes. But I think there are things that can be done. The problem is we can't really initiate them and make those changes. So we're not in control of that. But we will continue to lobby on behalf of the borrowers, continue to request modifications to the servicing and hopefully get somebody to respond to our request. But again. Unfortunately, we haven't been able to get anybody to respond to this point.

Our next question is a follow-up from Corey Greendale.

Just a quick question on how you're thinking about the physical footprint. It maybe semantics, but Kevin, you described what you were doing with 4 campuses as moving them into other locations versus shattering or consolidating it? I just want to make sure I understand what actually happened with those. And then what are you thinking about -- are you more in the mode of kind of downsizing versus thinking about opening new campuses at this point?

Yes, Corey. I think you understand it correctly in terms of the 4 campuses that relocated. The entities exist. They're still part of the OPE ID number. The students and the faculty and the staff physically relocated to that other location and so the previous location is no longer occupied. And we recorded some expenses associated with the fact that we're no longer operating there. So whatever lease cost and things of that nature based on appropriate accounting, we recognize that cost. So again, I think you understand that. In terms of how we're thinking about it going forward, there's nothing planned right now, and we've touched on this and a few of the other calls. We had I think thrown out numbers like 5 to 7 campuses that we kind of had our eyes on. We talked about changes relative to 6 of them in today's call. There maybe another 3 or 4 that we're kind of looking at right now, but nothing material. We want to maintain the footprint we have. We like the locations in the markets that we're serving, and we think it's opportunity for us to expand the product offerings in those markets, and that's what we talked about today with some of the things we have going on. As far as new locations going forward, likewise, I would tell you there's probably 3 to 4 markets where we think there are some opportunities for an additional location where we currently do not operate. You may hear us talking about that over the next year or so, but nothing major in terms of geographic expansion either. So I think the footprint is going to stay about the same size, and it's our intention to put additional programs through the current network and to get better utilization of the capacity that exist today. And we really do believe that, that opportunity exists for us. And we're excited about the trends we're seeing on some of the things we're doing already.

And our next question is another follow-up from Paul Ginocchio from Deutsche Bank.

I just thought attempt again to maybe get a little more color on what you think about new enrollment for the fourth quarter. Do you think it can accelerate as you continue to cycle the Criminal Justice program? Or do you think that -- can you give us any color what direction it goes from that 4% just reported?

Sure. I appreciate the additional questioning on that front. We're going to shy away from giving any specificity there. And again, I think, we're pleased with the trending. We've kind of gotten a sense in the last 2 quarters at least, and it's a short period admittedly, but kind of what that trending looks like. We'd be hesitant to suggest anything materially different than that at this particular point. But again, we're encouraged by what we're seeing on trends. We're encouraged that the trending continues. But again, I don't think we want to say that we're anticipating a major increase over that at this juncture. We'll take it a quarter at a time. We'll get a few more quarters under our belt. We'll have greater confidence in terms of this trend as something that's sustainable. But with each and every subsequent quarter, obviously, our confidence in the trend increases. And we've got 2 now, and heading into what could potentially be a third. Again, we're going to stop short of saying it's going to be north of that at this point.

And our final question comes from Jason Anderson from Stifel.

I just want to follow-up back in here on persistence. That is a bit better than we thought it would be this quarter. I'm just thinking about impact from Opportunity Scholarship. I know it's early, but are you seeing any help there? I know you didn't mention retention being down also. And then kind of an extension of that is how do you see -- directionally, how do we -- should we look at 4Q and also end of 2014?

Sure. Yes, so nothing to note of just yet in terms of the Opportunity Scholarship having a positive impact on the retention. I think we touched on a couple of the issues. We have a few courses that we think need a little bit of rework. And that may sound like it's not overly impactful, but it's probably the principal issue right now, a couple of courses that were revised and the results haven't been as good as we had hoped, so we have got to go back and then revisit those. We'll do that with a pilot group in December and probably have more of a full rollout in the March quarter and hopeful that we'll see some positive changes there. As far as looking forward, I don't anticipate any major changes right now on retention. Again, we'll keep our eyes on the Opportunity Scholarship. Part of it is academically based, so we'd hope to see some correlated improvements in retention. We haven't seen them yet. The courses, I think, will help us. And the fact that we've reduced the percentage of students taking hybrid courses should eventually bear some fruit as well. We've reduced that. It was probably 10% to 12% of enrollments in the June academic quarter taking hybrid courses. Were down probably in this quarter, September academic quarter, to somewhere around 4% or 5%, pretty sizable reduction there. And the difference between the resident and hybrid versions of the courses should deliver some positive improvement in retention. But if I'm modeling it, I'd probably don't model a lot of changes for the next couple of quarters on the persistence. Just leaving that pretty flat.

And at this time, I'm showing no additional questions. I'd like to turn the conference call back over for any closing remarks.

Thank you, operator. Appreciate it. And thanks, everybody, today for participating on our call. I want to appreciate all the questions and look forward to seeing you on our next conference call, where we'll be reviewing 2013 full year results and probably giving a little bit of business outlook for 2014. So thank you, again, and I'll look forward to talking to you then.

Ladies and gentlemen, we thank you for attending today's conference call. It has now concluded. You may now disconnect your telephone lines.