<PAGE> 1
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE PERIOD ENDED: December 31, 1998 COMMISSION FILE NUMBER: 000-21363
---------------
EDUCATION MANAGEMENT CORPORATION
(Exact name of registrant as specified in its charter)
PENNSYLVANIA 25-1119571
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
300 SIXTH AVENUE, PITTSBURGH, PA 15222
(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (412) 562-0900
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $.01 PAR VALUE
(Title of class)
PREFERRED SHARE PURCHASE RIGHTS
(Title of class)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
----- -----
The number of shares of the registrant's Common Stock outstanding as of
December 31, 1998 was 29,323,046.
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<PAGE> 2
INDEX
<TABLE>
<CAPTION>
PART I - FINANCIAL INFORMATION PAGE
<S> <C> <C>
ITEM 1 - CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (UNAUDITED)..................................... 3-6
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION.............. 7-10
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS.......................................... 11
ITEM 2 - CHANGES IN SECURITIES...................................... 11
ITEM 3 - DEFAULTS UPON SENIOR SECURITIES............................ 11
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF
SECURITY HOLDERS........................................... 11
ITEM 5 - OTHER INFORMATION.......................................... 11
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K........................... 11
SIGNATURES....................................................................... 12
</TABLE>
2
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PART I
ITEM 1 - CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
EDUCATION MANAGEMENT CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30, DECEMBER 31,
1997 1998 1998
----------- --------- -----------
(unaudited) (unaudited)
<S> <C> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents ................................. $ 3,913 $ 46,533 $ 2,510
Restricted cash ........................................... 325 777 740
-------- -------- --------
Total cash and cash equivalents ...................... 4,238 47,310 3,250
Receivables:
Trade, net of allowances ................................ 11,555 7,689 12,049
Notes, advances and other ............................... 1,307 3,989 2,503
Inventories ............................................... 1,779 1,933 2,210
Deferred income taxes ..................................... 1,509 2,361 2,361
Other current assets ...................................... 4,177 2,341 5,103
-------- -------- --------
Total current assets ................................. 24,565 65,623 27,476
-------- -------- --------
PROPERTY AND EQUIPMENT, NET ................................. 56,920 57,420 82,992
OTHER ASSETS ................................................ 6,001 6,287 6,813
GOODWILL, NET OF AMORTIZATION ............................... 18,912 19,453 19,662
-------- -------- --------
TOTAL ASSETS ......................................... $106,398 $148,783 $136,943
======== ======== ========
LIABILITIES AND SHAREHOLDERS' INVESTMENT CURRENT LIABILITIES:
Current portion of long-term debt ......................... $ 3,182 $ 2,615 $ 454
Accounts payable .......................................... 3,055 6,982 2,539
Accrued liabilities ....................................... 13,267 10,162 15,094
Advance payments .......................................... 13,448 18,338 14,783
-------- -------- --------
Total current liabilities ............................ 32,952 38,097 32,870
-------- -------- --------
LONG-TERM DEBT, LESS CURRENT PORTION ........................ 5,476 35,767 17,499
DEFERRED INCOME TAXES AND OTHER LONG-TERM LIABILITIES ....... 1,948 1,594 1,486
COMMITMENTS AND CONTINGENCIES SHAREHOLDERS' INVESTMENT:
Common stock .............................................. 289 290 293
Additional paid-in capital ................................ 88,185 88,880 90,458
Treasury stock, 78,802 shares at cost ..................... (354) (354) (354)
Stock subscriptions receivable ............................ (8) (8) --
Accumulated deficit ....................................... (22,090) (15,483) (5,309)
-------- -------- --------
TOTAL SHAREHOLDERS' INVESTMENT ....................... 66,022 73,325 85,088
-------- -------- --------
TOTAL LIABILITIES AND SHAREHOLDERS' INVESTMENT ....... $106,398 $148,783 $136,943
======== ======== ========
</TABLE>
The accompanying notes to condensed consolidated financial statements are an
integral part of these statements.
3
<PAGE> 4
EDUCATION MANAGEMENT CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
FOR THE THREE MONTHS FOR THE SIX MONTHS
ENDED DECEMBER 31, ENDED DECEMBER 31,
1997 1998 1997 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
NET REVENUES .......................................... $63,068 $ 74,986 $106,244 $125,065
COSTS AND EXPENSES:
Educational services ................................ 36,600 42,780 68,284 79,793
General and administrative .......................... 12,807 15,266 23,535 27,340
Amortization of intangibles ......................... 487 294 1,023 587
------- -------- -------- --------
49,894 58,340 92,842 107,720
------- -------- -------- --------
INCOME BEFORE INTEREST AND TAXES ...................... 13,174 16,646 13,402 17,345
Interest expense, net ............................... 54 103 100 70
------- -------- -------- --------
INCOME BEFORE INCOME TAXES ............................ 13,120 16,543 13,302 17,275
Provision for income taxes .......................... 5,510 6,794 5,586 7,101
------- -------- -------- --------
NET INCOME ............................................ $ 7,610 $ 9,749 $ 7,716 $ 10,174
======= ======== ======== ========
EARNINGS PER SHARE:
Basic ............................................. $ .26 $ .33 $ .27 $ .35
======= ======== ======== ========
Diluted ........................................... $ .26 $ .32 $ .26 $ .33
======= ======== ======== ========
WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING (000's):
Basic ............................................. 28,881 29,255 28,868 29,164
Diluted ........................................... 29,724 30,661 29,716 30,459
</TABLE>
The accompanying notes to condensed consolidated financial statements are an
integral part of these statements.
4
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EDUCATION MANAGEMENT CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
FOR THE SIX MONTHS
ENDED DECEMBER 31,
----------------------
1997 1998
-------- --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ............................................ $ 7,716 $ 10,174
ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH FLOWS
FROM OPERATING ACTIVITIES:
Depreciation and amortization .................... 6,669 7,344
Changes in current assets and liabilities:
Restricted cash ............................... 256 37
Receivables ................................... (2,313) (2,874)
Inventories ................................... (423) (277)
Other current assets .......................... (1,930) (2,762)
Accounts payable .............................. (2,478) (4,443)
Accrued liabilities ........................... 3,415 4,932
Advance payments .............................. (2,390) (3,555)
-------- --------
Total adjustments ........................... 806 (1,598)
-------- --------
Net cash flows from operating activities .... 8,522 8,576
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Expenditures for property and equipment ............... (11,604) (32,550)
Acquisition of subsidiaries ........................... (600) (500)
Other, net ............................................ (152) (709)
-------- --------
Net cash flows from investing activities .... (12,356) (33,759)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on debt ............................ (25,373) (20,429)
Net proceeds from issuance of Common Stock ............ 360 1,581
Other capital stock transactions, net ................. 114 8
-------- --------
Net cash flows from financing activities .... (24,899) (18,840)
-------- --------
NET CHANGE IN CASH AND CASH EQUIVALENTS ................. (28,733) (44,023)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD .......... 32,646 46,533
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD ................ $ 3,913 $ 2,510
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest (net of interest capitalized of $0 and $105) . $ 393 $ 122
Income taxes .......................................... 1,975 1,012
</TABLE>
The accompanying notes to condensed consolidated financial statements are an
integral part of these statements.
5
<PAGE> 6
EDUCATION MANAGEMENT CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. The accompanying condensed consolidated financial statements should be
read in conjunction with the Notes to Consolidated Financial Statements
included in the Company's 1998 Annual Report on Form 10-K. The accompanying
condensed consolidated balance sheet as of June 30, 1998 has been derived
from the audited balance sheet included in the Company's 1998 Annual Report
on Form 10-K. The accompanying interim financial statements are unaudited;
however, management believes that all adjustments necessary for a fair
presentation have been made and all such adjustments are normal, recurring
adjustments. The results for the three-month and six-month periods ended
December 31, 1998 are not necessarily indicative of the results to be
expected for the full fiscal year. Unless otherwise noted, references to
1998 and 1999 refer to the periods ended December 31, 1997 and 1998,
respectively.
2. Education Management Corporation ("EDMC" or the "Company") is among
the largest providers of proprietary postsecondary education in the United
States, based on student enrollments and revenues. EDMC's schools offer
associate's and bachelor's degree programs and non-degree programs in the
areas of design, media arts and technology, culinary arts, fashion and
paralegal studies. The Company has provided career-oriented education
programs for over 35 years, and its schools have graduated over 100,000
students.
3. On December 2, 1998, the Company's Board of Directors authorized a
2-for-1 stock split effected in the form of a stock dividend. The
distribution was made on December 29, 1998 to shareholders of record as
of the close of business on December 8, 1998. Shareholders received one
share of Common Stock for each outstanding share of Common Stock owned.
Except as noted herein, all applicable data, including earnings per share,
related to the Company's Common Stock have been restated to reflect this
stock split. Below is a summary of the Company's authorized and outstanding
capital stock:
<TABLE>
<CAPTION>
OUTSTANDING
---------------------------------------------------------------
CAPITAL STOCK PAR VALUE AUTHORIZED DECEMBER 31, 1997 JUNE 30, 1998 DECEMBER 31, 1998
------------------- -------------- -------------- ------------------- --------------- -------------------
<S> <C> <C> <C> <C> <C>
Preferred Stock $ .01 10,000,000 -- -- --
Common Stock $ .01 60,000,000 28,888,436 28,998,892 29,323,046
</TABLE>
4. On December 19, 1997, the Company acquired the assets (principally
accounts receivable and equipment) of The Louise Salinger School in San
Francisco, California, for $600,000 in cash. The school was renamed The Art
Institutes International at San Francisco and in April 1998 regained
eligibility to participate in various federal student financial assistance
programs ("Title IV Programs") under Title IV of the Higher Education Act
of 1965, as amended.
On February 26, 1998, the Company acquired certain assets related to
the operations of Bassist College in Portland, Oregon, for approximately
$900,000 in cash. The purchase agreement provides for certain adjustments,
based upon the resolution of certain liabilities and additional
consideration, based upon a specified percentage of gross revenues over the
next five years. The assets acquired were principally accounts receivable
and equipment. The school regained eligibility to participate in Title IV
Programs in April 1998 and was renamed The Art Institutes International at
Portland.
On October 1, 1998, the Company acquired the assets of Socrates
Distance Learning Technologies Group for approximately $500,000 in cash.
This acquisition was made to further the development of the Company's
distance learning capabilities. The previous owners will continue to be
employed by the Company under two-year employment and non-compete
arrangements.
The Company's acquisitions have been accounted for using the purchase
method of accounting, with the excess of the purchase price over the fair
value of the net assets acquired being assigned to identifiable intangible
assets and goodwill. The results of the acquired entities have been
included in the Company's results from the respective dates of acquisition.
The pro forma effects, individually and collectively, of the acquisitions
in the Company's condensed consolidated financial statements would not
materially impact the reported results.
5. Reconciliation of diluted shares:
<TABLE>
<CAPTION>
THREE MONTHS SIX MONTHS
ENDED DECEMBER 31, ENDED DECEMBER 31,
------------------ ------------------
1997 1998 1997 1998
------ ------ ------ ------
<S> <C> <C> <C> <C>
Basic shares .................... 28,881 29,255 28,868 29,164
Dilution for stock options....... 843 1,406 848 1,295
------ ------ ------ ------
Diluted shares .................. 29,724 30,661 29,716 30,459
====== ====== ====== ======
</TABLE>
6
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ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
AND FINANCIAL CONDITION
This Quarterly Report on Form 10-Q contains statements that may be
forward-looking statements within the meaning of the U.S. Private
Securities Litigation Reform Act of 1995. Those statements can be
identified by the use of forward-looking terminology such as "believes,"
"estimates," "anticipates," "continues," "contemplates," "expects," "may,"
"will," "could," "should" or "would" or the negatives thereof. Those
statements are based on the intent, belief or expectation the Company as of
the date of this Quarterly Report. Any such forward-looking statements are
not guarantees of future performance and may involve risks and
uncertainties that are outside the control of the Company. Results may vary
materially from the forward-looking statements contained herein as a result
of changes in United States or international economic conditions,
governmental regulations and other factors. The Company expressly disclaims
any obligation or understanding to release publicly any updates or
revisions to any forward-looking statement contained herein to reflect any
change in the Company's expectations with regard thereto or any change in
events, conditions or circumstances on which any such statement is based.
The following discussion of the Company's results of operations and
financial condition should be read in conjunction with the interim
unaudited condensed consolidated financial statements of the Company and
the notes thereto, included herein. Unless otherwise noted, references to
1998 and 1999 are to the periods ended December 31, 1997 and 1998,
respectively.
RESULTS OF OPERATIONS
THREE MONTHS ENDED DECEMBER 31, 1998 COMPARED TO THE THREE MONTHS ENDED
DECEMBER 31, 1997
Net revenues increased by 18.9% to $75.0 million in 1999 from $63.1 million
in the second quarter of 1998 due primarily to a 14.7% increase in student
enrollments, accompanied by an approximate 5.0% tuition price increase. Total
student enrollment at the Company's schools increased from 18,763 in 1998 to
21,518 in 1999, including enrollment growth of approximately 10.0% at the
schools that have been operated by the Company for 24 months or more. The Art
Institute of Los Angeles ("AILA") commenced classes in October 1997. The Company
acquired the Louise Salinger School in December 1997 and Bassist College in
February 1998. These schools were renamed The Art Institutes International at
San Francisco ("AISF") and The Art Institutes International at Portland
("AIPD"), respectively.
Educational services expense increased by $6.2 million, or 16.9%, to $42.8
million in 1999 from $36.6 million in 1998, due primarily to the incremental
costs to support higher student enrollments. As a percentage of net revenues,
educational services expense decreased from 58.0% to 57.1%, for the respective
quarters, reflecting certain fixed costs matched against increased revenue.
General and administrative expense was $15.3 million in 1999, up 19.2% from
$12.8 million in 1998. The increase over the comparable quarter in the prior
year reflects higher marketing and student admissions expense, resulting
primarily from increased employee compensation and media advertising costs.
General and administrative expense, as a percent of net revenues, increased
slightly from 20.3% in the second quarter of fiscal 1998, to 20.4%.
Amortization of intangibles decreased by 39.6%, to $294,000 in 1999 from
$487,000 in 1998, as a result of certain intangible assets becoming fully
amortized.
Net interest expense was $103,000 for 1999, as compared to $54,000 for
1998. This change resulted from increased borrowings during the quarter,
primarily related to capital additions.
The Company's effective tax rate was 41.1% in 1999 and 42.0% in 1998. The
effective rates differed from the combined federal and state statutory rates due
to expenses that are nondeductible for tax purposes.
Net income increased by $2.1 million to $9.7 million in 1999 from $7.6
million in 1998, resulting from increased revenue and improved margins.
7
<PAGE> 8
SIX MONTHS ENDED DECEMBER 31, 1998 COMPARED TO THE SIX MONTHS ENDED
DECEMBER 31, 1997
Net revenues increased by 17.7% to $125.1 million for the first six months
of fiscal 1999 from $106.2 million for the comparable period in fiscal 1998.
Average student enrollment at the Company's schools increased from 16,269 in
1998 to 18,595 in 1999, or 14.3%. The enrollment growth and an approximate 5.0%
tuition increase resulted in greater net revenues. Net revenues for 1999 include
six months of revenue for newer schools: The Art Institute of Los Angeles
(AILA), AISF and AIPD.
Educational services expense increased by $11.5 million, or 16.9%, to $79.8
million in 1999 from $68.3 million in 1998, due primarily to the incremental
costs to support higher student enrollments. As a percentage of net revenues,
educational services expense decreased from 64.3% to 63.8%, for the respective
periods, reflecting certain fixed costs matched against increased revenue.
General and administrative expense was $27.3 million in 1999, up 16.2% from
$23.5 million in 1998. The increase over the comparable period in the prior year
reflects higher marketing and student admissions expense, resulting primarily
from increased employee compensation and media advertising costs. General and
administrative expense, as a percent of net revenues, decreased slightly from
22.2% in the first six months of fiscal 1998 to 21.9% in 1999, primarily as a
result of the increased revenues from the Company's newer schools and leveraging
of fixed costs.
Amortization of intangibles decreased by 42.6% to $0.6 million in 1999 from
$1.0 million in 1998. The decrease in amortization expense is a result of
certain intangible assets becoming fully amortized.
Net interest expense decreased to $70,000 in 1999 from $100,000 in 1998.
The lower interest expense results from a decrease in the average outstanding
indebtedness for the comparable six-month period.
The Company's effective tax rate was 41.1% in 1999 and 42.0% in 1998. The
effective rates differed from the combined federal and state statutory rates due
to expenses that are nondeductible for tax purposes.
Net income increased by $2.5 million or 31.9% to $10.2 million in 1999 from
$7.7 million in 1998, resulting from increased revenue and improved margins.
SEASONALITY AND OTHER FACTORS AFFECTING QUARTERLY RESULTS
The Company's quarterly revenues and income fluctuate primarily as a result
of the pattern of student enrollments. The Company experiences a seasonal
increase in new enrollments in the fall (fiscal year second quarter), which is
traditionally when the largest number of new high school graduates begin
postsecondary education. Some students choose not to attend classes during
summer months, although the Company's schools encourage year-round attendance.
As a result, total student enrollments at the Company's schools are highest in
the fall quarter and lowest in the summer months (fiscal year first quarter).
The Company's costs and expenses, however, do not fluctuate as significantly as
revenues on a quarterly basis. Historically, the Company's profitability has
been lowest in its fiscal first quarter due to lower revenues combined with
expenses incurred in preparation for the peak enrollments in the fall quarter.
The Company anticipates that the seasonal pattern in revenues and earnings will
continue in the future.
LIQUIDITY AND CAPITAL RESOURCES
The Company generated positive cash flow from operating activities of $8.5
million and $8.6 million for the six months ended December 31, 1997 and 1998,
respectively. The slight year-to-year improvement reflects the increase in net
income and non-cash charges, offset by an increased working capital commitment.
The Company had a $5.4 million working capital deficit as of December 31,
1998 as compared to $27.5 million of working capital as of June 30, 1998. The
decrease in working capital was due primarily to $20.4 million in debt
repayments under the Amended and Restated Credit Agreement, dated March 16, 1995
(the "Revolving Credit Agreement") and capitalized leases. Net trade receivables
increased $4.4 million from June 30, 1998, reflecting seasonally higher student
enrollments.
Borrowings under the Revolving Credit Agreement are used by the Company
primarily to fund working capital needs, resulting from the seasonal pattern of
cash receipts throughout the year. The level of accounts receivable reaches a
peak immediately after the billing of tuition and fees at the beginning of each
academic quarter. Collection of these receivables is heaviest at the start of
each academic quarter.
8
<PAGE> 9
The Company believes that cash flow from operations, supplemented from time
to time by borrowings under the Revolving Credit Agreement, will provide
adequate funds for ongoing operations, planned expansion to new locations,
planned capital expenditures and debt service during the term of the Revolving
Credit Agreement.
The Company's capital expenditures were $11.6 million and $32.6 million in
1998 and 1999, respectively. The increase is attributable to the acquisitions
and subsequent improvements of three buildings; The Art Institute of Seattle's
main facility, a dormitory facility in Ft. Lauderdale and a building in Denver.
The combined purchase price of these facilities was approximately $20.5 million.
The properties acquired in Seattle and Ft. Lauderdale were previously leased.
The acquisition of the building in Denver will enable The Colorado Institute of
Art to consolidate operations that now occupy three facilities (two leased, one
owned) into one building.
The Company anticipates increased capital spending for 1999, principally
related to the acquisition and improvement of buildings, the introduction and
expansion of culinary arts programs, further investment in schools acquired or
started during the previous three years and classroom technology.
The Company leases a significant portion of its facilities. Future
commitments on existing leases will be paid from cash provided from operating
activities.
IMPACT OF NEW ACCOUNTING STANDARDS
In June 1998, the Statement of Financial Accounting Standards ("SFAS")
No. 133, "Accounting for Derivative Instruments and Hedging Activities", was
issued. The statement establishes accounting and reporting standards requiring
that every derivative instrument (including certain derivative instruments
embedded in other contracts) be recorded in the balance sheet as either an asset
or liability measured at its fair value. Additionally, SFAS No. 133 requires
that changes in a derivative's fair value be recognized currently in earnings
unless specific hedge accounting criteria are met. SFAS No. 133 is effective for
years beginning after June 15, 1999. The Company will adopt SFAS No. 133 in
fiscal 2000 and does not anticipate that this statement will have a significant
impact on its financial statements or disclosures.
YEAR 2000 ISSUES
THE PROBLEM
The Year 2000 problem arises from the fact that many existing information
technology ("IT") hardware and software systems and non-information technology
("non-IT") products containing embedded microchip processors were originally
programmed to represent any date with six digits (e.g., 12/31/99), as opposed to
eight digits (e.g., 12/31/1999). Accordingly, problems may arise for many such
products and systems when attempting to process information containing dates
that fall after December 31, 1999. As a result, many such products and systems
could experience miscalculations, malfunctions or disruptions. Additionally,
such products and systems may experience miscalculations, malfunctions or
disruptions caused by other dates, such as September 9, 1999 (9/9/99), which was
a date traditionally used as a default date by computer programmers. This
problem is commonly referred to as the "Year 2000" problem, and the acronym
"Y2K" is commonly substituted for the phrase "Year 2000."
Although the Company is unable at this time to assess the possible impact
on its results of operations, liquidity or financial condition of any
Y2K-related disruptions to its business caused by the malfunctioning of any IT
or non-IT system and products that it uses or that third parties with which it
has material relationships use, management does not believe at the current time
that the cost of remediating the Company's internal Y2K problems will have a
material adverse impact upon its business, results of operations, liquidity or
financial condition.
THE COMPANY'S STATE OF READINESS FOR ITS YEAR 2000 ISSUES
The Company has created a task force (the "Y2K Task Force") which includes
members from the Company's significant operating areas. To date, the Y2K Task
Force has implemented a program, the goal of which is to assess the potential
exposure of each such area to the Y2K problem, which is the first phase of
EDMC's overall Y2K program, and, as the second phase thereof, has designed a
coordinated plan to determine whether any such potential exposure would result
in a problem that would require some remediation. As each such area's Y2K
problems are identified, the third phase will be to determine the best course of
action to address each such problem, implement the solution, and to develop
contingency plans, to the extent possible and necessary. The final phase of the
overall Y2K program will be both independent and coordinated testing to ensure
Y2K compliance in each operating area. The Company believes that the Y2K Task
Force has identified all material IT and non-IT systems owned or operated by
EDMC that require a Y2K compliance review.
9
<PAGE> 10
The Y2K Task Force has completed the assessment/inventory phase. As part of
such phase, the Y2K Task Force successfully completed its first test of the
school administrative system in October 1998. Responses to the Y2K Task Force's
inquiries to third parties regarding Y2K readiness have been slower than
expected with about 50% of the vendors responding. The remaining vendors have
been reviewed and either removed from the critical vendors list as the result of
our internal contingency planning or sent a second questionnaire. Therefore, the
Y2K Task Force now expects to continue receiving responses though February 1999.
Of those third parties responding, each entity has made representations that it
is Y2K compliant, or will be in a timely fashion.
The Y2K Task Force has created a methodology for the testing and
remediation of our classroom environment, and this has been successfully
completed at one location. Testing and remediation using the same methodology is
now in progress at the other locations.
THE COSTS TO ADDRESS THE COMPANY'S YEAR 2000 ISSUES
Based upon its current understanding of the Company's Y2K issues, the Y2K
Task Force's estimate for the direct costs of implementing its investigation and
remediation plans is between $250,000 and $750,000. These costs will be incurred
in fiscal years 1999 and 2000. Additional information must be obtained to
determine, for example, whether to recommend the replacement of older hardware
and software systems or to expend the resources to bring those systems into Y2K
compliance.
RISKS RELATED TO THE COMPANY'S YEAR 2000 ISSUES
The Company has begun to outline several possible worst-case scenarios that
could arise because of Y2K issues; however, at this time, the Company does not
have sufficient information to make an assessment of the likelihood of any of
these worst-case scenarios. On the other hand, it should be noted that the
Company's schools will not be in session on December 31, 1999 or January 1,
2000, with classes resuming in mid-January 2000.
Because the Company is in a regulated industry and relies, indirectly, on
only a few sources for a substantial portion of its revenues, EDMC's business is
very dependent upon those entities' efforts to address their own Y2K issues.
Should any such third parties experience Y2K-related disruptions, it could have
a material adverse impact on the Company's business, results of operations,
liquidity or financial condition. For example, as with all postsecondary
education-oriented businesses whose students receive governmental financial aid,
the Company's operations and liquidity depend upon the student funding provided
by Title IV Programs to its students. Processing of applications for this
funding is handled by the U.S. Department of Education's computer systems. The
U.S. Department of Education has stated that its systems will be Y2K-compliant
in early calendar year 1999 and that various schools will be able to run tests
of the remediated systems during the first half of calendar year 1999.
Similarly, five guaranty agencies provide a substantial majority of the
guarantees for the loans issued to the Company's students pursuant to Title IV
Programs. The Company completed testing with its largest guaranty agency (which
accounts for approximately 85% of its total guarantees) in November 1998, with
no significant problems encountered.
CONTINGENCY PLANS
The Y2K Task Force will be developing contingency plans for each of EDMC's
significant operating areas. These contingency plans would be utilized in the
event that, despite the Company's best efforts, or due to the Company's lack of
control over certain third parties, a system is not Y2K-compliant and EDMC's
business is adversely affected.
A more complete discussion of the Company's Y2K issues is contained in the
Company's 1998 Annual Report on Form 10-K.
10
<PAGE> 11
PART II
ITEM 1 - LEGAL PROCEEDINGS
Not Applicable
ITEM 2 - CHANGES IN SECURITIES
Not Applicable
ITEM 3 - DEFAULTS UPON SENIOR SECURITIES
Not Applicable
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On November 5, 1998, the annual meeting of the shareholders of the
Company was held for the election of directors and so that the
shareholders could vote upon one proposal set forth below. The vote
results do not reflect the 2-for-1 stock split.
(i) Election of directors (Class II):
SHARES
------
James J. Burke, Jr.:
For 12,646,291
Withheld 33,708
Miryam L. Drucker:
For 12,627,798
Withheld 52,201
(ii) Approval of the retention of Arthur Andersen LLP as the
Company's independent auditors:
SHARES
------
For 12,635,720
Against 21,661
Abstain 22,618
ITEM 5 - OTHER INFORMATION
Not Applicable
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
(15) Report of Independent Public Accountants
(27) Financial Data Schedule submitted to the Securities
and Exchange Commission in electronic format, filed herewith
(b) Reports on Form 8-K:
A report on Form 8-K dated December 2, 1998 was filed during
the three months ended December 31, 1998 related to the
Company's stock split effected in the form of a stock
dividend. The Items listed were Item 5, Other Events, and
Item 7(c), Exhibits.
11
<PAGE> 12
SIGNATURES
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 thereunto duly authorized.
EDUCATION MANAGEMENT CORPORATION
(Registrant)
Date: February 16, 1999
/s/ Robert B. Knutson
------------------------------------
Robert B. Knutson
Chairman and Chief Executive Officer
/s/ Robert T. McDowell
------------------------------------
Robert T. McDowell
Senior Vice President and
Chief Financial Officer
12
<PAGE> 1
Exhibit 15
ARTHUR ANDERSEN LLP
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Education Management Corporation and Subsidiaries:
We have reviewed the accompanying condensed consolidated balance sheets of
Education Management Corporation (a Pennsylvania corporation) and Subsidiaries
as of December 31, 1998 and 1997, and the related condensed consolidated
statements of income for the three- and six- month periods ended December 31,
1998 and 1997, and the condensed consolidated statements of cash flows for the
six-month periods ended December 31, 1998 and 1997. These financial statements
are the responsibility of the Company's management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in accordance
with generally accepted auditing standards, the objective of which is the
expression of an opinion regarding the financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the financial statements referred to above for them to be in
conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet of Education Management Corporation
and Subsidiaries as of June 30, 1998 (not presented herein), and, in our report
dated August 4, 1998, we expressed an unqualified opinion on that statement. In
our opinion, the information set forth in the accompanying condensed
consolidated balance sheet as of June 30, 1998, is fairly stated, in all
material respects, in relation to the consolidated balance sheet from which it
has been derived.
ARTHUR ANDERSEN LLP
Pittsburgh, Pennsylvania
January 25, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONDENSED CONSOLIDATED BALANCE SHEET AND CONDENSED CONSOLIDATED STATEMENT OF
INCOME AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<RESTATED>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-START> OCT-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 3,250
<SECURITIES> 0
<RECEIVABLES> 20,969
<ALLOWANCES> (8,920)
<INVENTORY> 2,210
<CURRENT-ASSETS> 27,476
<PP&E> 150,361
<DEPRECIATION> 67,369
<TOTAL-ASSETS> 136,943
<CURRENT-LIABILITIES> 32,870
<BONDS> 17,953
0
0
<COMMON> 293
<OTHER-SE> 84,795
<TOTAL-LIABILITY-AND-EQUITY> 136,943
<SALES> 74,986
<TOTAL-REVENUES> 74,986
<CGS> 42,780
<TOTAL-COSTS> 58,340
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 767
<INTEREST-EXPENSE> 103
<INCOME-PRETAX> 16,543
<INCOME-TAX> 6,794
<INCOME-CONTINUING> 9,749
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 9,749
<EPS-PRIMARY> .33<F1>
<EPS-DILUTED> .32<F1>
<FN>
<F1>On December 2, 1998, the Company's Board of Directors authorized a 2-for-1
stock split effected in the form of a stock dividend. The distribution was made
on December 29, 1998 to shareholders of record as of the close of business on
December 8, 1998. Financial Data Schedules reported prior to the stock split
have not been restated to reflect this stock split.
</FN>
</TABLE>
