-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, GhNAh9BCzgNBwRPctNVtBEIKLAUwBm3+QYq4uUyRzuoYBhlnysC1kxQmuDnGfI4+ 1AhxOBeQKwORi7qPvPmY1Q== 0000950128-99-000769.txt : 19990518 0000950128-99-000769.hdr.sgml : 19990518 ACCESSION NUMBER: 0000950128-99-000769 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19990331 FILED AS OF DATE: 19990517 FILER: COMPANY DATA: COMPANY CONFORMED NAME: EDUCATION MANAGEMENT CORPORATION CENTRAL INDEX KEY: 0000880059 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-EDUCATIONAL SERVICES [8200] IRS NUMBER: 251119571 FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-21363 FILM NUMBER: 99627235 BUSINESS ADDRESS: STREET 1: 300 SIXTH AVENUE CITY: PITTSBURGH STATE: PA ZIP: 15222 BUSINESS PHONE: 4125620900 MAIL ADDRESS: STREET 1: 300 SIXTH AVE CITY: PITTSBURGH STATE: PA ZIP: 15222 10-Q 1 10-Q 1 ================================================================================ 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: MARCH 31, 1999 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 March 31, 1999 was 29,485,434. ================================================================================ 2 6 INDEX
PART I - FINANCIAL INFORMATION PAGE 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
3 PART I ITEM 1 - CONDENSED CONSOLIDATED FINANCIAL STATEMENTS EDUCATION MANAGEMENT CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS (DOLLARS IN THOUSANDS)
MARCH 31, JUNE 30, MARCH 31, 1998 1998 1999 ----------- ---------- ----------- (unaudited) (unaudited) ASSETS CURRENT ASSETS: Cash and cash equivalents ................................. $ 20,634 $ 46,533 $ 12,574 Restricted cash ........................................... 1,370 777 680 --------- --------- --------- Total cash and cash equivalents ...................... 22,004 47,310 13,254 Receivables: Trade, net of allowances ................................ 7,623 7,689 6,846 Notes, advances and other ............................... 2,679 3,989 3,009 Inventories ............................................... 1,802 1,933 2,094 Deferred income taxes ..................................... 1,509 2,361 2,361 Other current assets ...................................... 4,674 2,341 4,043 --------- --------- --------- Total current assets ................................. 40,291 65,623 31,607 --------- --------- --------- PROPERTY AND EQUIPMENT, NET ................................. 55,999 57,420 83,166 OTHER ASSETS ................................................ 6,271 6,287 6,942 GOODWILL, NET OF AMORTIZATION ............................... 19,716 19,453 19,495 --------- --------- --------- TOTAL ASSETS ......................................... $ 122,277 $ 148,783 $ 141,210 ========= ========= ========= LIABILITIES AND SHAREHOLDERS' INVESTMENT CURRENT LIABILITIES: Current portion of long-term debt ......................... $ 2,878 $ 2,615 $ 1,346 Accounts payable .......................................... 2,574 6,982 3,674 Accrued liabilities ....................................... 11,862 10,162 10,204 Advance payments .......................................... 30,694 18,338 32,974 --------- --------- --------- Total current liabilities ............................ 48,008 38,097 48,198 --------- --------- --------- LONG-TERM DEBT, LESS CURRENT PORTION ........................ 1,409 35,767 -- DEFERRED INCOME TAXES AND OTHER LONG-TERM LIABILITIES........ 1,937 1,594 1,501 COMMITMENTS AND CONTINGENCIES SHAREHOLDERS' INVESTMENT: Common stock .............................................. 290 290 295 Additional paid-in capital ................................ 88,431 88,880 90,774 Treasury stock, 78,802 shares at cost ..................... (354) (354) (354) Stock subscriptions receivable ............................ (8) (8) -- Retained earnings (accumulated deficit) ................... (17,436) (15,483) 796 --------- --------- --------- TOTAL SHAREHOLDERS' INVESTMENT ....................... 70,923 73,325 91,511 --------- --------- --------- TOTAL LIABILITIES AND SHAREHOLDERS' INVESTMENT........ $ 122,277 $ 148,783 $ 141,210 ========= ========= =========
The accompanying notes to condensed consolidated financial statements are an integral part of these statements. 3 4 EDUCATION MANAGEMENT CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
FOR THE THREE MONTHS FOR THE NINE MONTHS ENDED MARCH 31, ENDED MARCH 31, 1998 1999 1998 1999 --------- --------- --------- --------- NET REVENUES .......................................... $ 59,807 $ 70,575 $ 166,051 $ 195,640 COSTS AND EXPENSES: Educational services ................................ 39,318 45,122 107,601 124,915 General and administrative .......................... 12,191 14,890 35,727 42,230 Amortization of intangibles ......................... 294 314 1,317 901 --------- --------- --------- --------- 51,803 60,326 144,645 168,046 --------- --------- --------- --------- INCOME BEFORE INTEREST AND TAXES ...................... 8,004 10,249 21,406 27,594 Interest expense (income), net ...................... (15) (116) 84 (46) --------- --------- --------- --------- INCOME BEFORE INCOME TAXES ............................ 8,019 10,365 21,322 27,640 Provision for income taxes .......................... 3,368 4,260 8,955 11,361 --------- --------- --------- --------- NET INCOME ............................................ $ 4,651 $ 6,105 $ 12,367 $ 16,279 ========= ========= ========= ========= EARNINGS PER SHARE: Basic ............................................. $ .16 $ .21 $ .43 $ .56 ========= ========= ========= ========= Diluted ........................................... $ .16 $ .20 $ .42 $ .53 ========= ========= ========= ========= WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING (000's): Basic ............................................. 28,910 29,414 28,882 29,248 Diluted ........................................... 29,826 30,867 29,753 30,596
The accompanying notes to condensed consolidated financial statements are an integral part of these statements. 4 5 EDUCATION MANAGEMENT CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (DOLLARS IN THOUSANDS)
FOR THE NINE MONTHS ENDED MARCH 31, ------------------------ 1998 1999 CASH FLOWS FROM OPERATING ACTIVITIES: Net income .............................................. $ 12,367 $ 16,279 ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH FLOWS FROM OPERATING ACTIVITIES: Depreciation and amortization ...................... 10,542 12,126 Changes in current assets and liabilities: Restricted cash ................................. (789) 97 Receivables ..................................... 291 1,823 Inventories ..................................... (446) (161) Other current assets ............................ (2,419) (1,702) Accounts payable ................................ (3,508) (3,308) Accrued liabilities ............................. 1,892 42 Advance payments ................................ 14,769 14,636 -------- -------- Total adjustments ............................. 20,332 23,553 -------- -------- Net cash flows from operating activities ...... 32,699 39,832 -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Acquisition of subsidiaries ............................. (1,488) (500) Expenditures for property and equipment ................. (13,839) (37,304) Other, net .............................................. (322) (858) -------- -------- Net cash flows from investing activities ...... (15,649) (38,662) -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Principal payments on debt .............................. (29,783) (37,036) Net proceeds from issuance of Common Stock .............. 607 1,899 Other capital stock transactions, net ................... 114 8 -------- -------- Net cash flows from financing activities ...... (29,062) (35,129) -------- -------- NET CHANGE IN CASH AND CASH EQUIVALENTS ................... (12,012) (33,959) CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD ............ 32,646 46,533 -------- -------- CASH AND CASH EQUIVALENTS, END OF PERIOD .................. $ 20,634 $ 12,574 ======== ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid during the period for: Interest (net of interest capitalized of $0 and $262) ... $ 564 $ 229 Income taxes ............................................ 9,389 9,933
The accompanying notes to condensed consolidated financial statements are an integral part of these statements. 5 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 nine-month periods ended March 31, 1999 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 March 31, 1998 and 1999, 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 bachelor's and associate's degree programs and non-degree programs in the areas of design, media arts, 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. Shareholders received one share of Common Stock for each outstanding share of Common Stock owned. 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:
OUTSTANDING --------------------------------------------------------------- CAPITAL STOCK PAR VALUE AUTHORIZED MARCH 31, 1998 JUNE 30, 1998 MARCH 31, 1999 ------------------- -------------- -------------- ------------------- --------------- ------------------- Preferred Stock $ .01 10,000,000 - - - Common Stock $ .01 60,000,000 28,925,700 28,998,892 29,485,434
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. 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 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 (000's):
THREE MONTHS ENDED MARCH 31, NINE MONTHS ENDED MARCH 31, ----------------------------- ---------------------------- 1998 1999 1998 1999 ------ ------ ------ ------ Basic shares........................... 28,910 29,414 28,882 29,248 Dilution for stock options............. 916 1,453 871 1,348 ------ ------ ------ ------ Diluted shares......................... 29,826 30,867 29,753 30,596 ====== ====== ====== ======
6 7 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 March 31, 1998 and 1999, respectively. RESULTS OF OPERATIONS THREE MONTHS ENDED MARCH 31, 1999 COMPARED TO THE THREE MONTHS ENDED MARCH 31, 1998 Net revenues increased by 18.0% to $70.6 million in 1999 from $59.8 million in the third quarter of 1998 due primarily to a 14.8% increase in student enrollments, accompanied by an approximate 5% tuition price increase. Total student enrollment at the Company's schools increased from 18,041 in 1998 to 20,711 in 1999, including enrollment growth of approximately 10.1% at the schools that have been operated by the Company for 24 months or more. Net revenues include those of acquired entities from the date of acquisition. The Company acquired Bassist College in February 1998 and renamed the school The Art Institutes International at Portland ("AIPD"). Educational services expense increased by $5.8 million, or 14.8%, to $45.1 million in 1999 from $39.3 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 65.7% to 63.9%, for the respective quarters. Leveraging of certain expenses, such as salaries and facilities costs, contributed to this improvement. General and administrative expense was $14.9 million in 1999, up 22.1% from $12.2 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 from 20.4% in the third quarter of fiscal 1998, to 21.1%. This increase reflects the costs associated with the initial marketing effort for the newly acquired schools. Amortization of intangibles increased by $20,000, to $314,000 in 1999, due to the amortization of intangibles resulting from a minor acquisition. Net interest income increased from $15,000 in 1998 to $116,000 in 1999. Average outstanding borrowings were lower in 1999, as compared to the same period for 1998. Accordingly, less interest expense was offset against interest income. 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 $1.5 million to $6.1 million in 1999 from $4.7 million in 1998, resulting from increased revenue and improved margins. 7 8 NINE MONTHS ENDED MARCH 31, 1998 COMPARED TO THE NINE MONTHS ENDED MARCH 31, 1997 Net revenues increased by 17.8% to $195.6 million for the first nine months of fiscal 1999 from $166.1 million for the comparable period in fiscal 1998. Average student enrollment at the Company's schools increased from 16,860 in 1998 to 19,300 in 1999, or 14.5%. The enrollment growth and an approximate 5% tuition increase resulted in greater net revenues. The Art Institute of Los Angeles ("AILA") commenced classes in October 1997. Net revenues include those of acquired entities from the date of acquisition. The Company acquired the Louise Salinger School in December 1997 and renamed the school The Art Institutes International at San Francisco ("AISF"). Net revenues for 1999 include nine months of revenue for newer schools: AILA, AISF and AIPD. Educational services expense increased by $17.3 million, or 16.1%, to $124.9 million in 1999 from $107.6 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 64.8% to 63.8%, for the respective periods. Leveraging of certain expenses, such as salaries and facilities costs, contributed to this improvement. General and administrative expense was $42.2 million in 1999, up 18.2% from $35.7 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, represented 21.5% and 21.6% of net revenues in the first nine months of fiscal 1998 and fiscal 1999, respectively. Amortization of intangibles decreased by 31.6% to $901,000 in 1999 from $1.3 million in 1998. The decrease in amortization expense, for the nine-month period, results from certain intangible assets becoming fully amortized. Net interest income was $46,000 in 1999, as compared to net interest expense of $84,000 in 1998. Interest expense declined in connection with the repayment of outstanding borrowings. Accordingly, less interest expense was offset against interest income. 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 $3.9 million or 31.6% to $16.3 million in 1999 from $12.4 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 $39.8 million for the nine months ended March 31, 1999, an increase of $7.1 million over the comparable period for 1998. The year-to-year improvement reflects the increases in net income and non-cash charges, along with a reduced working capital commitment. The Company had a $16.6 million working capital deficit as of March 31, 1999 as compared to $27.5 million of working capital as of June 30, 1998. The decrease in working capital was due primarily to cash used for capital expenditures of $37.3 million and for $37.0 million in debt repayments under the Amended and Restated Credit Agreement, dated March 16, 1995 (the "Revolving Credit Agreement") and capitalized leases. 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 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 $13.8 million and $37.3 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. Subsequent to March 31, 1999, the Company acquired a building in Pittsburgh for approximately $5.1 million. The Company plans to relocate The Art Institute of Pittsburgh to this property after planned renovations have been completed. The Company anticipates increased capital spending for 1999, principally related to the acquisition and improvement of buildings discussed above, 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. 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 is 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 is 9 10 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. The Y2K Task Force has completed the assessment/inventory phase. As part of such phase, the Y2K Task Force successfully completed a "date ahead" 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 to the initial inquiry. As a result, vendors that did not respond were either removed from the critical vendors list, as the result of our internal contingency planning, or sent a second questionnaire. Responses from vendors are still arriving, as of April 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. As part of the Y2K Task Force's program, the Company's accounting, human resources and payroll systems were successfully upgraded to a Y2K certified version in March 1999. A comprehensive "end-to-end date ahead" test is scheduled for June 1999 that includes testing of the Company's complete software suite and file exchanges. This testing will include as many external agencies that are available or is practicable. 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 outlined 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. The U.S. Department of Education's computer systems handle processing of applications for this funding. In April 1999, the U.S. Department of Education announced that all of its 175 data systems, including its 14 mission-critical systems are Y2K-compliant. The Company is scheduled to test the interface with the U.S. Department of Education of the remediated systems during June 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 is 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. Drafts of these plans are scheduled for completion by June 1999, with testing and revisions continuing through November 1999. A more complete discussion of the Company's Y2K issues is contained in the Company's 1998 Annual Report on Form 10-K. 10 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 Not Applicable 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 March 19, 1999 was filed during the three months ended March 31, 1999 related to the Company's promotion of Robert P. Gioella to President and Chief Operating Officer and David J. Pauldine to Executive Vice President. The Items listed were Item 5, Other Events, and Item 7(c), Exhibits. 11 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: May 17, 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 EX-15 2 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS 1 ARTHUR ANDERSEN LLP Exhibit 15 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 March 31, 1999 and 1998, and the related condensed consolidated statements of income for the three-and nine-month periods ended March 31, 1999 and 1998, and the condensed consolidated statements of cash flows for the nine-month periods ended March 31, 1999 and 1998. 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, April 20, 1999 EX-27 3 FINANCIAL DATA SCHEDULE
5 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. 1,000 3-MOS JUN-30-1999 JAN-01-1999 MAR-31-1999 13,254 0 17,030 (10,184) 2,094 31,607 155,115 (71,949) 141,210 48,198 1,346 0 0 295 91,216 141,210 70,575 70,575 45,122 60,326 0 2,294 (116) 10,365 4,260 6,105 0 0 0 6,105 .21 .20 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.
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