APOL Apollo Education Grp., Inc.

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

 

 

Commission file number: 0-25232

 

 

 

Securities registered pursuant to Section 12(g) of the Act:
None
(Title of class)

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  YES  o      NO  þ

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  YES  o      NO  þ

 

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  þ      NO  o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.   o

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

 

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Securities Exchange Act).  YES  o      NO  þ

 

No shares of Apollo Group, Inc. Class B common stock, its voting stock, are held by non-affiliates. The holders of Apollo Group, Inc. Class A common stock are not entitled to any voting rights. The aggregate market value of Apollo Group Class A common stock held by non-affiliates as of February 28, 2007 (last day of the Registrant’s most recently completed second fiscal quarter), was approximately $6.6 billion.

 

The number of shares outstanding for each of the Registrant’s classes of common stock as of October 10, 2007 is as follows:

 

Documents Incorporated by Reference: None

 

 

APOLLO GROUP, INC. AND SUBSIDIARIES

 

FORM 10-K

 

INDEX

 

 

Special Note Regarding Forward-Looking Statements

 

This Annual Report on Form 10-K, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations” (“MD&A”), contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended. All statements other than statements of historical fact may be forward-looking statements. Such forward-looking statements include, among others, those statements regarding future events and future results of Apollo Group, Inc. (“the Company,” “Apollo Group,” “Apollo,” “APOL,” “we,” “us” or “our”) that are based on current expectations, estimates, forecasts, and the beliefs and assumptions of us and our management, and speak only as of the date made and are not guarantees of future performance. In some cases, forward-looking statements can be identified by terminology such as “may,” “will,” “should,” “believes,” “expects,” “anticipates,” “estimates,” “plans,” “predicts,” “targets,” “potential,” “continue,” “objectives,” or the negative of these terms or other comparable terminology. Such forward-looking statements are necessarily estimates based upon current information and involve a number of risks and uncertainties. Such statements should be viewed with caution. Actual events or results may differ materially from the results anticipated in these forward-looking statements as a result of a variety of factors. While it is impossible to identify all such factors, factors that could cause actual results to differ materially from those estimated by us include but are not limited to:

 

 

The cautionary statements referred to in this section also should be considered in connection with any subsequent written or oral forward-looking statements that may be issued by us or persons acting on our behalf. We undertake no obligation to publicly update or revise any forward-looking statements, or any facts, events, or circumstances after the date hereof that may bear upon forward-looking statements. Furthermore, we cannot guarantee future results, events, levels of activity, performance, or achievements.

 

PART I

 

 

CFP provides financial planning education programs, including the Certified Financial Planner Professional Education Program ^tm Certification; graduate degree programs in financial planning, financial analysis, and finance; and certification programs in retirement, asset management, and other financial planning areas. CFP offers these programs through its campus in Colorado and also offers some of its non-degree programs at UPX campuses. CFP is accredited by HLC and is a member of the NCA.

 

On October 20, 2006, we completed the acquisition of Insight. Insight operates an online high school and engages in the business of servicing cyber high schools and providing other online education. We acquired all of the outstanding common stock of Insight for $15.5 million. This acquisition allows us to expand into the online charter high school market, some of whose graduates are expected to enroll in UPX.

 

On August 8, 2007, we announced our intention to acquire online advertising network Aptimus, Inc. (Nasdaq: APTM) for $6.25 per share in an all-cash transaction valued at approximately $47.6 million. This acquisition will help us increase the effectiveness and efficiency of our online advertising directed at increasing awareness of and access to quality education services. The closing of the acquisition is subject to customary closing conditions, including Aptimus shareholder approval. The acquisition is expected to close in early fiscal 2008, after Aptimus’ shareholder meeting scheduled for October 29, 2007.

 

On October 22, 2007, we formed a joint venture with The Carlyle Group (“Carlyle”), called Apollo Global, Inc. (“Apollo Global”) to pursue investments in the international education services sector. Carlyle, based in Washington D.C., is one of the world’s largest and most prestigious private equity firms, managing over $76 billion in assets for over 1,000 institutional investors, including several of the largest pension funds in the U.S. Through Apollo Global, we intend to capitalize on the high global demand for education services. Apollo Global will provide education services through two primary strategies. First, Apollo Global will continue to provide our wide range of U.S. accredited degrees to foreign students outside the U.S. Second, Apollo Global will provide local education services, including post-secondary degrees, in the countries it seeks to enter. These capabilities will be achieved through both a disciplined acquisition process and organic growth.

 

Apollo Global will utilize the portfolio of our core competencies while leveraging Carlyle’s education industry and political relationships, and strategic assets across the global education sector. Combining Carlyle’s global footprint with our educational expertise and Apollo Global’s local, “in-country” expertise will assist in sourcing acquisitions, facilitate due diligence for new investment opportunities and enhance the opportunity for organic growth. Investments by Apollo Global will likely include a range of structures, including minority investments, 50 / 50 partnerships, and controlling acquisitions.

 

The decision to create Apollo Global was driven by the following factors:

 

 

We have agreed that, within approximately 18 months, all of our education-related activities directed toward students who live outside the U.S. and who are not citizens of the U.S. or members of the U.S. military will be conducted through Apollo Global. We have agreed to commit up to $801 million in cash or contributed assets and

own 80.1% of Apollo Global. Carlyle has agreed to commit up to $199 million in cash or contributed assets and own the remaining 19.9%. Additionally, conservative amounts of debt will be employed, as appropriate. The Board of Apollo Global will consist of seven directors, four of whom will be designated by us and two of whom will be designated by Carlyle. The seventh director will be the President of Apollo Global. Additionally, 10 to 15% of the value of the equity will be available to provide incentives for management of Apollo Global. Apollo Global will be consolidated in our financial statements.

 

Our operating segments are currently aggregated into three reportable segments for financial reporting purposes: UPX, Other Schools, and Corporate. The Other Schools segment includes IPD, WIU, CFP, and Insight. The following table presents the revenue for the years ended August 31, 2007, 2006 and 2005 for each of our segments:

 

 

Our operations are generally subject to seasonal trends. We experience, and expect to continue to experience, seasonal fluctuations in our results of operations as a result of changes in the level of student enrollments. While we enroll students throughout the year, second quarter (December through February) enrollments and related revenues generally are lower than other quarters due to holiday breaks in December and January. We experience a seasonal increase in new enrollments in August of each year when most other colleges and universities begin their fall semesters.

 

We incorporated in Arizona in 1981 and maintain our principal executive offices at 4615 East Elwood Street, Phoenix, Arizona 85040. Our telephone number is (480) 966-5394. Our website addresses are as follows:

 

 

Our fiscal year is from September 1 to August 31. Unless otherwise stated, references to the years 2007, 2006, 2005, 2004 and 2003 relate to the fiscal years ended August 31, 2007, 2006, 2005, 2004 and 2003, respectively.

 

Industry Background

 

The non-traditional education market is a significant and growing component of the post-secondary education market, which is estimated by the U.S. Department of Education to be a more than $373.0 billion industry. According to the U.S. Department of Education, National Center for Education Statistics, over 6.8 million, or 39%, of all students enrolled in higher education programs are over the age of 24. A large percentage of these students would not be classified as traditional (i.e., living on campus, supported by parents and not working). The non-traditional students typically are looking to improve their skills and enhance their earnings potential within the context of their careers. Between 2002 and 2014, the percentage of 18- to 24-year-old students in the U.S. is expected to increase 16%. The market for non-traditional education should continue to increase, reflecting the rapidly expanding knowledge-based economy.

 

Many working students seek accredited degree programs that provide flexibility to accommodate the fixed schedules and time commitments associated with their professional and personal obligations. The education formats offered by our institutions enable working students to attend classes and complete coursework on a more convenient schedule than traditional universities offer. Many universities and institutions offering technology-based

education do not effectively address the unique requirements of working students due to the following specific constraints:

 

 

 

 

We believe that our track record for enrollment and revenue growth is attributable to our offering comprehensive services combining quality educational content, teaching resources and customer service with formats that are accessible and easy to use for students as well as corporate clients. We maintain a primary focus on providing quality education to serve the needs of working students.

 

Our Offerings

 

Our over 30-year history as a provider of higher education for working students enables us to provide students with quality education and responsive customer service. Our institutions have gained expertise in designing curriculum, recruiting and training faculty, monitoring academic quality and providing a high level of support services to students that allows our institutions to offer the following:

 

 

 

 

 

Strategy

 

Our primary mission is to strengthen our position as a leading provider of high quality, accessible education for individuals around the world by affording strong returns for all of our stakeholders: students, employees, and investors. Our primary focus is providing the highest quality educational product and services for our students in order for them to maximize the benefits of their educational experience. A superior educational experience, combined with engaged and energized faculty and employees, should, in turn, enable our shareholders to achieve strong returns on their capital over time.

 

In light of the changes in our senior management team in 2007, we have committed to a strategic plan to best ensure the effective deployment of our resources and our capital. An outline of the plan is presented below which, we believe, is consistent with our stated mission of providing strong returns for all of our stakeholders.

 

 

 

Our goal over time is to generate mid-to-high single-digit domestic revenue growth and low double-digit domestic operating income and free cash flow growth.

 

Teaching/Learning Model

 

The teaching/learning models used by UPX, IPD Client Institutions and WIU were designed specifically to meet the educational needs of working students. The models are structured to enable students who are employed

full-time to earn their degrees and still meet their personal and professional responsibilities. Students attend weekly classes. In addition at UPX (excluding Axia College), students also meet weekly as part of a three- to five-person learning team. Learning team sessions are an integral part of each UPX course. They facilitate in-depth review of and reflection on course materials. Members work together to complete assigned group projects and develop communication and teamwork skills. Courses are designed to facilitate the application of knowledge and skills to the workplace and are taught by faculty members who possess advanced degrees and have professional experience in business, industry, government, or other professions. In this way, faculty members are able to share their professional knowledge and skills with the students.

 

Components of our teaching/learning models include:

 

 

Structural Components of Teaching/Learning Model

 

While students over the age of 24 comprise approximately 39% of all higher education enrollments in the United States, the mission of most accredited four-year colleges and universities is to serve 18- to 24-year-old students and conduct research. UPX, WIU, CFP and IPD Client Institutions acknowledge the differences in

educational needs between working students and traditional students and provide programs and services that allow students to earn their degrees without major disruption to their personal and professional lives.

 

The educational literature suggests that working students require a different teaching/learning model than that designed for traditional students. Working students seek accessibility, curriculum consistency, time- and cost-effectiveness and learning that has immediate application to the workplace.

 

The facilitating elements of our teaching/learning models include:

 

 

Degree Programs and Services

 

UPX Programs.   The following is a list of the degree programs and related areas of specialization that UPX offers:

 

Associate of Arts

 

Undergraduate Bachelor of Science

 

Graduate

 

Doctorate

 

Undergraduate students may demonstrate and document college-level learning gained from experience through an assessment by faculty members, according to the guidelines of the Council for Adult and Experiential Learning (“CAEL”), for the potential award of credit. The average number of credits awarded to the approximately 2,500 UPX undergraduate students who utilized the process in 2007 was 5 credits of the 120 required to graduate with a bachelor’s degree. CAEL reports that over 300 colleges and universities are members of CAEL and currently accept credits awarded for college-level learning gained through experience.

 

Distance Education

 

UPX Online.   UPX Online uses a proprietary Online Learning System for class delivery. Online classes are small and have mandatory participation requirements for both the faculty and the students. Each class is instructionally designed so that students have an experience that is consistent with their ground campus counterparts. Convenience is enhanced by asynchronous and mobile communication. All class materials are delivered electronically.

 

The teaching/learning model is based upon a philosophy that balances cognitive and affective strategies. The cognitive strategy includes content that is relevant and supports outcomes-driven objectives. An assessment plan is used to determine student learning and provide information to make improvements to the curriculum. The affective strategy includes facilitation by trained instructors, collaboration through learning team assignments in upper division courses, online student services, proactive academic counseling, tutoring in selected courses, and class discussion that creates a peer social context. The learning outcomes balance theoretical knowledge and practical application of those concepts. Practitioner faculty facilitate learning by providing explanation and work experience examples as they relate to the course topics and objectives.

 

Degreed Enrollments represent individual students enrolled in our degree programs at UPX, including Axia College, that attended a course during the quarter and did not graduate as of the end of the quarter (including Axia students enrolled in UPX and WIU). Degreed Enrollments include any student who graduated from one degree program and started a new degree program (for example, a graduate of the associate’s degree program returns for a bachelor’s degree or a graduate of a bachelor’s degree program returns for a master’s degree), as well as students who have been out of attendance for greater than 12 months and return to a program.

 

In recent years, we have experienced our greatest growth in our associate’s degree programs with a corresponding decrease in our bachelor’s degree programs. This is due to the fact that UPX has expanded its degree program offerings such that students who were previously enrolled in bachelor’s degree programs are now frequently enrolled in associate’s degree programs.

 

Based on surveys of incoming students during 2007, the average age of UPX’s students is in the early thirties, and approximately 65% are women. We have a diverse student population and have experienced growth in the number and percentage of African-American students. As of August 31, 2007, our student population is composed of the following racial/ethnic groups:

 

The approximate age percentage distribution of incoming UPX students is as follows:

 

 

We also work closely with businesses and governmental agencies to meet their specific needs either by modifying existing programs or, in some cases, by developing customized programs. These programs are often held at the employers’ offices or on-site at select military bases. UPX has also formed educational partnerships with various corporations to provide programs specifically designed for their employees.

 

We consider the employers that provide tuition assistance to their employees through tuition reimbursement plans or direct bill arrangements our secondary customers.

 

Marketing

 

To generate interest among potential students, we engage in a broad range of activities to inform the public about our teaching/learning model and the programs offered. These activities include:

 

Internet Marketing.   We advertise extensively on the Internet using search placements, banners and other advertisements on targeted sites, such as education portals. We also benefit from an increasing number of non-paid Internet referrals, including leads directed to our domain names as a result of Web searches using Internet search engines. We believe these prospective students are more likely to enroll because these prospects are actively seeking information about our programs.

 

On August 8, 2007, we announced our intention to acquire online advertising network Aptimus, Inc. (Nasdaq: APTM) for $6.25 per share in an all-cash transaction valued at approximately $47.6 million. This acquisition will help us increase the effectiveness and efficiency of our online advertising directed at increasing awareness of and access to quality education services. The closing of the acquisition is subject to customary closing conditions, including Aptimus shareholder approval. The acquisition is expected to close in early fiscal 2008, after Aptimus’ shareholder meeting scheduled for October 29, 2007.

 

Direct Mail.   Direct mail is effective at reaching working individuals that express an interest in training, education and self-improvement. Direct mail also enables us to target specific career fields, such as Accounting, Business, Education, Information Technology, Criminal Justice and Nursing. We can also reach specific metro areas for local marketing efforts using direct mail. We currently purchase education-related mailing lists from numerous suppliers that specialize in this area. In addition, we track leads for every direct mail campaign by allowing potential students the opportunity to respond using the following methods:

 

 

Print and Broadcast.   We rely on print and broadcast advertising to target new prospects and to assist with building brand recognition.

 

TV Campaign.   We employ various schedules on network cable and local and national TV for a brand awareness campaign to supplement our other advertising activities.

Stadium Naming Rights.   We obtained the naming rights on the University of Phoenix Stadium in Glendale, Arizona, which is home to the Arizona Cardinals National Football League football club. The naming rights include signage, advertising, and other promotional benefits to enhance our brand awareness locally and nationally.

 

Re-Marketing.   Re-marketing efforts include direct mail, telephone and e-mail sent to existing leads in our database. Re-marketing is an important part of our marketing campaign because of our growing database of qualified prospects and their changing needs for education programs.

 

Referrals.   Referrals continue to be an important source of new students, including those from employers, co-workers, current students, alumni, family members and friends.

 

Competition

 

The higher education market is highly fragmented and competitive with no private or public institution enjoying a significant market share. We compete primarily with four-year and two-year degree-granting public and private regionally accredited colleges and universities. Many of these colleges and universities enroll working students in addition to the traditional 18- to 24-year-old students. We expect that these colleges and universities will continue to modify their existing programs to serve working students more effectively. In addition, many colleges and universities have announced various distance education initiatives.

 

We believe that the competitive factors in the higher education market include the following:

 

 

In our offerings of non-degree programs, we compete with a variety of business and information technology providers, primarily those in the for-profit training sector. Many of these competitors have significantly more market share in given geographical regions and longer-term relationships with key customers.

 

 

 

 

We consider our relations with our employees to be good.

Regulatory Environment

 

The Higher Education Act of 1965, as reauthorized (the “Higher Education Act”), and the related regulations govern all higher education institutions participating in Title IV programs. The Higher Education Act mandates specific additional regulatory responsibilities for each of the following:

 

 

All higher education institutions participating in Title IV programs must be accredited by an association recognized by the U.S. Department of Education. The U.S. Department of Education reviews all participating institutions for compliance with all applicable standards and regulations under the Higher Education Act.

 

New or revised interpretations of regulatory requirements could have a material adverse effect on us. In addition, changes in or new interpretations of applicable laws, rules, or regulations could have a material adverse effect on the accreditation, authorization to operate in various states, permissible activities and costs of doing business of UPX and WIU. The failure to maintain or renew any required regulatory approvals, accreditation, or state authorizations by UPX or WIU could have a material adverse effect on us. See Item 1A — “Risk Factors — Risks Related to the Highly Regulated Industry in Which We Operate.”

 

Accreditation

 

UPX, WIU and CFP are covered by regional accreditation, which provides the following:

 

 

Regional accreditation is accepted nationally as the basis for the recognition of earned credit and degrees for academic purposes, employment, professional licensure and, in some states, authorization to operate as a degree-granting institution. Under the terms of a reciprocity agreement among the six senior regional accrediting associations, representatives of each region in which a regionally accredited institution operates may participate in the evaluations for reaffirmation of accreditation of which the North Central Association of Colleges and Schools is a member.

 

UPX was granted accreditation by HLC in 1978. UPX’s accreditation was reaffirmed in 1982, 1987, 1992, 1997 and 2002. The next comprehensive evaluation visit by HLC is scheduled to be conducted in 2012. This 10-year period is the maximum period of reaffirmation granted by HLC and we believe reflects their confidence in UPX.

 

CFP received initial accreditation from HLC of the North Central Association of Colleges and Schools in November 1994, three years prior to its acquisition by us. Such accreditation was based upon CFP’s offering the Master of Science degree in Personal Financial Planning. In 2003, HLC extended approval to CFP to offer Master of Science degrees in Financial Analysis and Finance. All Master of Science programs are offered through online, instructor-led distance learning technology. CFP’s accreditation was reaffirmed in 1998 and 2004. The next reaffirmation visit is scheduled in 2011.

 

WIU was accredited by HLC prior to the acquisition by us, and the accreditation was reaffirmed in 1998 and 2005. WIU’s next reaffirmation visit will occur in 2012.

 

Programs offered by IPD Client Institutions are evaluated by the Client Institutions’ respective regional accrediting associations either as part of a reaffirmation visit or a focused evaluation visit.

 

UPX’s Bachelor of Science in Nursing program received program accreditation from the National League for Nursing Accrediting Commission in 1989. The Master of Science in Nursing program earned the National League for Nursing Accrediting Commission accreditation in 1996. In 2000, both the Bachelor of Science in Nursing and

the Master of Science in Nursing programs received reaccreditation status from the National League for Nursing Accreditation Commission. In September 2005, both nursing degree programs received the full five-year initial accreditation status from the Commission on Collegiate Nursing Education. At the time that the two degree programs were accredited by the Commission on Collegiate Nursing Education, UPX elected not to renew its accreditation with the National League for Nursing Accrediting Commission.

 

UPX’s Master of Counseling in Community Counseling degree received initial accreditation for its Phoenix and Tucson campuses from the Council for Accreditation of Counseling and Related Educational Programs (“CACREP”) in 1995, and the accreditation was reaffirmed in 2002. The next reaffirmation visit is expected in 2010. UPX’s Master of Counseling in Mental Health Counseling received initial accreditation from CACREP for its Utah campus in 2001, and the next reaffirmation visit is expected in 2008.

 

UPX’s business programs have been reviewed and accredited by the Association of Collegiate Business Schools and Programs (“ACBSP”). The next reaffirmation visit will occur in 2017, with an interim focus report submitted in 2011.

 

UPX received approval from HLC to offer its first doctoral-level program in 1998. The first students were enrolled in the Doctor of Management in Organizational Leadership program beginning in 1999. Additionally, in 2002, UPX received approval from HLC to offer three new doctoral programs: Doctor of Business Administration, Doctor of Education in Educational Leadership and Doctor of Health Administration. All of the doctoral programs are offered via distance learning technology with annual residencies in Phoenix and other domestic or select international locations.

 

In September 2007, the first two Ph.D. programs were approved by HLC: a Ph.D. in Higher Education Administration, and a Ph.D. in Industrial/Organizational Psychology; these programs are now awaiting various state authorizations prior to initial enrollments.

 

The address and phone number for the accrediting bodies are as follows:

 

The Higher Learning Commission

30 North LaSalle Street, Suite 2400

Chicago, IL 60602-2504

(312) 263-0456

 

Commission on Collegiate Nursing Education

One Dupont Circle, NW, Suite 530

Washington, D.C. 20036

(202) 887-6791

 

CACREP

5999 Stevenson Avenue

Alexandria, VA 22304

(703) 823-9800 ext. 301

 

ACBSP

7007 College Boulevard, Suite 420

Overland Park, KS 66211

(913) 339-9356

 

Jurisdictional Authorizations

 

UPX is authorized to operate in the 38 states and the District of Columbia in which it has a physical presence. UPX has held these authorizations for periods ranging from less than one year to over 25 years. UPX has also been approved to operate in Alaska, Delaware, Montana and South Dakota, but does not yet have a physical presence in these states. Applications for approval to operate in Mississippi and New York have been submitted and are awaiting approval.

All regionally accredited institutions, including UPX, are required to be evaluated separately for authorization to operate in Puerto Rico. UPX obtained authorization from the Puerto Rico Commission on Higher Education, and that authorization remains in effect.

 

UPX provides specific programs in British Columbia under the written consent of the Minister of Advanced Education. UPX operates in Alberta pursuant to approval granted by Alberta Advanced Education.

 

In Rotterdam, The Netherlands, UPX operates based upon its accreditation from HLC.

 

In Mexico, the UPX subsidiary operates as the Instituto de Estudios Superiores de Phoenix and, in addition to the Instituto ’s degrees, UPX grants degrees to Instituto graduates pursuant to an articulation agreement between UPX and the Instituto . The Instituto de Estudios Superiores de Phoenix has received accreditation from the Ministry of Education and Culture for the State of Chihuahua, Mexico and operates a campus in Juarez, Mexico pursuant to that authority.

 

CFP is currently authorized to operate in Colorado.

 

WIU is currently authorized to operate in Arizona.

 

IPD Client Institutions possess authorization to operate in those states in which they maintain a physical presence, which are subject to renewal.

 

Some states assert authority to regulate all degree-granting institutions if their educational programs are available to their residents, whether or not the institutions maintain a physical presence within those states. UPX has obtained licensure in these states.

 

Admissions Standards

 

To gain admission to undergraduate programs at UPX, students must have a high school diploma or General Equivalency Diploma (“GED”) and satisfy employment requirements, if applicable for their field of study. Applicants whose native language is not English must take and pass the Test of English as a Foreign Language (“TOEFL”) or Test of English for International Communication (“TOEIC”). Non-U.S. citizens attending a campus located in the United States are required to hold an approved visa or to have been granted permanent residency. Additional requirements may apply to individual programs or to students who are attending a specific campus. Students already in undergraduate programs at other schools may petition to be admitted to UPX on a provisional status if they do not meet certain criteria requirements. Some programs have work requirements (e.g., nursing) that state that students must have a certain amount of experience in given areas in order to be admitted. These vary by program, and not all programs have them.

 

To gain admission to undergraduate programs at WIU, students generally must have a high school diploma or GED and satisfy certain minimum grade point average requirements. Additional requirements may apply to individual programs. Students already in undergraduate programs at other schools may petition to be admitted to WIU on provisional status if they do not meet certain admission requirements.

 

To gain admission to graduate programs at UPX, students must have an undergraduate degree from a regionally or nationally accredited college or university, satisfy the minimum grade point average requirement, have relevant work and employment experience, if applicable for their field of study, have taken and passed the TOEFL/TOEIC requirements, if the applicant’s native language is not English, and, for applicants who are not U.S. citizens and are attending a campus located in the United States, hold an approved visa or have been granted permanent residency. Additional requirements may apply to individual programs or to students who are attending a specific campus. Students in graduate programs at other schools may be admitted to UPX on provisional status if they do not meet grade point average admission requirements.

 

To gain admission to graduate programs at WIU, students generally must have an undergraduate degree from a regionally accredited college or university and satisfy minimum grade point average requirements. Additional requirements may apply to individual programs. Students in graduate programs at other schools may petition to be admitted to WIU on provisional status if they do not meet certain admission requirements.

To gain admission to doctoral programs at UPX, students generally must have a master’s degree from a regionally accredited college or university, be currently employed in a professional position with three years of professional experience, have three letters of recommendation from professional associates who are able to assess the candidate’s leadership skills and potential for success and have a laptop and a membership in a research library. Applicants whose native language is not English also must achieve a minimum TOEFL/TOEIC or Berlitz score.

 

Federal Financial Aid Programs

 

Programs

 

Aid under the Title IV programs is awarded every academic year on the basis of financial need, generally defined under the Higher Education Act as the difference between the cost of attending an educational institution and the amount the family can reasonably expect to contribute to that cost. The amount of financial aid awarded per academic year is based on many factors, including, but not limited to, student program of study, student grade level, federal annual loan limits and expected family contribution. All recipients of Title IV program funds must maintain satisfactory academic progress within the guidelines published by the U.S. Department of Education.

 

We collected approximately 65% of our 2007 revenues from receipt of Title IV funds.

 

Students at UPX and WIU may receive grants and loans to fund their education under the following Title IV programs:

 

 

Pell Grants are generally awarded based on need only to undergraduate students who have not earned a bachelor’s or professional degree. Unlike loans, Pell Grants do not have to be repaid. During fiscal 2007, Pell Grants represented 10% of our Title IV funding.

 

ACG awards became available for the first time for the 2006-07 academic year for first-year students who graduated from high school after January 1, 2006, and for second-year students who graduated from high school after January 1, 2005. An ACG award will provide up to $750 for the first year of undergraduate study and up to $1,300 for the second year of undergraduate study to students who are U.S. citizens and eligible for a Pell Grant, and who have successfully completed a rigorous high school program, as determined by the state or local education agency and recognized by the Secretary of Education. Second-year students must also have maintained a cumulative grade point average (“GPA”) of at least 3.0 (on a 4.0 scale). Unlike loans, ACG awards do not have to be repaid. ACG awards represent a small portion of our Title IV funding.

 

A National SMART Grant award provides up to $4,000 for each of the third and fourth years of undergraduate study to students who are U.S. citizens, eligible for a Pell Grant, and majoring in physical, life or computer sciences, mathematics, technology or engineering or a foreign language deemed critical to national security. The U.S. Department of Education publishes a list of eligible majors using the Classification of Instruction Program codes developed by the National Center for Education Statistics. The student must also have maintained a cumulative GPA of at least 3.0 in coursework required for the major. Unlike loans, National SMART Grants do not have to be repaid. National SMART Grants represent a small portion of our Title IV funding.

 

FSEOG awards are designed to supplement Pell Grants for the neediest students. The availability of FSEOG awards is limited by the amount of those funds allocated to the institution under a federal formula. UPX and WIU are required to contribute 25% of all FSEOG awards, with such funds to come from institutional grants, scholarships

and other eligible funds and, in certain states, portions of state-funded student assistance programs. Unlike loans, FSEOG awards do not have to be repaid. FSEOG awards represent a small portion of our Title IV funding.

 

Stafford Loans are the most significant source of federal student aid and are low interest, federally guaranteed loans made by a private lender. Annual and aggregate loan limits apply based on the student’s grade level. There are two types of Stafford Loans: (a) subsidized Stafford Loans, which are based on the federal statutory calculation of student need, and (b) unsubsidized Stafford Loans, which are not need-based. Neither Stafford Loan is based on creditworthiness. The Federal Government pays the interest on subsidized Stafford Loans while the student is enrolled in school; the borrower is responsible for the interest on unsubsidized Stafford Loans regardless of school attendance. The student has the option to defer payment on the principal and interest while enrolled in school. A dependent student may be eligible to borrow up to the annual limit of unsubsidized loan if the parent is unable to obtain a PLUS Loan. Repayment on Stafford Loans begins six months after the date the student ceases enrollment. The loan may be paid back to the lender over the course of up to 10 years or longer. Both graduate and undergraduate students may apply for Stafford Loans. For graduate student borrowers, UPX is one of the lenders that can be selected by the student; UPX offers this service as part of the federal “school-as-lender” program. After allowable administrative expenses, income generated from the school-as-lender program is awarded to UPX students as need-based grants. Stafford Loans represent 89% of our Title IV funding.

 

The PLUS Loan is a low interest non-need-based federal loan made by a private lender that is based on creditworthiness. The borrower on this loan is one or both parents of a dependent student, or a graduate student. Borrowers under the PLUS Loan program are eligible to borrow up to the cost of attendance less estimated financial assistance from other federal loan programs. PLUS Loans represent a small portion of our Title IV funding.

 

A Perkins Loan is a low-interest loan for both undergraduate and graduate students showing exceptional financial need. UPX is the lender for the loan, and the loan must be repaid to UPX. The loan is made with government funds with a share contributed by the school. Perkins Loans represent a small portion of our Title IV funding.

 

Regulatory Requirements

 

All federal financial aid programs are established by the Higher Education Act and regulations promulgated thereunder. The Higher Education Act has an expiration date; in the past, if Congress did not reauthorize the Higher Education Act before its expiration date, Congress extended the authorization of the Higher Education Act. The Higher Education Act is set to expire on October 31, 2007.

 

To be eligible to participate in Title IV programs, an educational institution must meet three minimal requirements:

 

 

UPX and WIU currently meet all three requirements. In addition, as eligible institutions, UPX and WIU must maintain compliance with Title IV regulatory requirements. The most significant requirements are summarized below:

 

Eligibility and Certification Procedures.   The Higher Education Act specifies the manner in which the U.S. Department of Education reviews institutions for eligibility and certification to participate in Title IV programs. Every educational institution involved in Title IV programs must be certified to participate and is required to periodically renew this certification. UPX was recertified in June 2003 and its current certification for the Title IV programs expired in June 2007. However, in March 2007, UPX submitted its Title IV program participation recertification application to the U.S. Department of Education. We have been collaborating with the U.S. Department of Education regarding the UPX recertification application. Although we have submitted our application for renewal, we are continuing to supply additional follow-up information based on requests from the U.S. Department of Education. Our eligibility continues on a month-to-month basis until the U.S. Department of Education issues its decision on the application. A month-to-month status is not unusual considering the process is

multi-faceted and iterative. We have no reason to believe that the application will not be renewed and expect that the renewal process will be completed satisfactorily. WIU was recertified in October 2003 and its current certification for the Title IV programs expires in June 2009.

 

Student Loan Defaults.   To remain eligible to participate in Title IV programs, educational institutions must maintain a student loan cohort default rate below 25% for three consecutive years and below 40% for any given year. In addition, if its student loan default rate equals or exceeds 10%, the educational institution must delay for 30 days the release of federal student loan proceeds for first time borrowers and permanently loses the ability to participate in the “school-as-lender” program as part of the Stafford Loan program, among other penalties. In 2005, the most recent U.S. Department of Education cohort default rate reporting period, the national cohort default rate average for all proprietary higher education institutions was 8.2%. UPX and WIU students’ cohort default rates for the federal student loan programs for 2005 as reported by the U.S. Department of Education were 7.3% and 11.4%, respectively. With the expansion of the Axia College program, we anticipate an upward trend in student loan defaults based on the greater risk of student loan default presented by the Axia College demographic. Since WIU’s Title IV program disbursements are not material, we do not expect the 11.4% default rate to be significant enough to have a material adverse effect on our business. Moreover, we have implemented initiatives to mitigate the greater risk of student loan defaults.

 

Administrative Capability.   The Higher Education Act directs the U.S. Department of Education to assess the administrative capability of each institution to participate in Title IV programs. The failure of an institution to satisfy any of the criteria used to assess administrative capability may allow the U.S. Department of Education to determine that the institution lacks administrative capability and, therefore, may be subject to additional scrutiny or denied eligibility for Title IV programs.

 

Standards of Financial Responsibility.   Pursuant to the Title IV regulations, as revised, each eligible higher education institution must satisfy the minimum standard established for three tests which assess the financial condition of the institution at the end of the institution’s fiscal year. The tests provide three individual scores which must then satisfy a composite score standard. The maximum composite score is 3.0. If the institution achieves a composite score of at least 1.5, it is considered financially responsible. A composite score from 1.0 to 1.4 is considered financially responsible, subject to additional monitoring, and the institution may continue to participate as a financially responsible institution for up to three years. An institution that does not achieve a satisfactory composite score will fall under alternative standards. As of August 31, 2007, our composite score was 2.6.

 

Limits on Title IV Program Funds.   The Title IV regulations define the types of educational programs offered by an institution that qualify for Title IV program funds. For students enrolled in qualified programs, the Title IV regulations place limits on the amount of Title IV program funds that a student is eligible to receive in any one academic year, as defined by the U.S. Department of Education. An academic year must consist of at least 30 weeks of instructional time and a minimum of 24 credit hours. Most of UPX’s and WIU’s degree programs meet the academic year minimum definition of 30 weeks of instructional time and 24 credit hours and, therefore, qualify for Title IV program funds. The programs that do not qualify for Title IV program funds consist primarily of corporate training programs and certain certificate and continuing professional education programs. These programs are paid for directly by the students or their employers.

 

Restricted Cash.   The U.S. Department of Education places restrictions on excess Title IV program funds collected for unbilled tuition and fees transferred to UPX or WIU. If an institution holds excess Title IV program funds with student authorization, the institution must maintain, at all times, cash in its bank account in an amount at least equal to the amount of funds the institution holds for students.

 

The “90/10 Rule.” A requirement of the Higher Education Act, commonly referred to as the “90/10 Rule,” applies only to for-profit institutions of higher education, which includes UPX and WIU. Under this rule, for-profit institutions will be ineligible to participate in Title IV programs if the amount of Title IV program funds used by the students or institution to satisfy tuition, fees and other costs incurred by the students exceeds 90% of the institution’s cash-basis revenues from eligible programs. UPX and WIU are required to calculate this percentage at the end of each fiscal year. UPX’s and WIU’s percentages were 69% and 52%, respectively, for the year ended August 31, 2007.

Compensation of Representatives.   The Higher Education Act prohibits an institution from providing any commission, bonus, or other incentive payment based directly or indirectly on success in securing enrollments or financial aid to any person or entity engaged in any student recruitment, admission, or financial aid awarding activity. Title IV regulations provide safe harbors for activities and arrangements that an institution may carry out without violating the Higher Education Act, which include, but are not limited to, the payment of fixed compensation (annual salary), as long as that compensation is not adjusted up or down more than twice during any 12-month period, and any adjustment is not based solely on the number of students recruited, admitted, enrolled, or awarded financial aid. UPX, WIU, and IPD believe that their current methods of compensating enrollment counselors and financial aid staff comply with the Title IV regulations. See Item 3, “Legal Proceedings,” regarding the Incentive Compensation Qui Tam Action case.

 

Authorizations for New Locations.   UPX, WIU and CFP are required to have authorization to operate as degree-granting institutions in each state where they physically provide educational programs. Certain states accept accreditation as evidence of meeting minimum state standards for authorization or for exempting the institution entirely from formal state licensure or approval. Other states require separate evaluations for authorization. Depending on the state, the addition of a degree program not offered previously or the addition of a new location must be included in the institution’s accreditation and be approved by the appropriate state authorization agency. UPX, WIU and CFP are currently authorized to operate in all states in which they have physical locations.

 

Although HLC does not require UPX to obtain their prior approval before it is permitted to expand into new areas in North America and The Netherlands, they do require prior approval before UPX may expand into foreign countries outside of North America and The Netherlands. In addition, HLC requires WIU and CFP to obtain their prior approval before they are permitted to expand into new states or foreign countries.

 

Branching and Classroom Locations.   The Title IV regulations contain specific requirements governing the establishment of new main campuses, branch campuses and classroom locations at which the eligible institution offers, or could offer, 50% or more of an educational program. In addition to classrooms at campuses and learning centers, locations affected by these requirements include the business facilities of client companies, military bases and conference facilities used by UPX and WIU. The U.S. Department of Education requires that the institution notify the U.S. Department of Education of each location prior to disbursing Title IV program funds to students at that location. UPX and WIU have procedures in place to ensure timely notification and acquisition of all necessary location approvals prior to disbursing Title IV funds to students attending any new location.

 

Change of Ownership or Control.   A change of ownership or control, depending on the type of change, may have significant regulatory consequences for UPX, WIU and CFP. Such a change of ownership or control could trigger recertification by the U.S. Department of Education, reauthorization by state licensing agencies, or the evaluation of the accreditation by HLC.

 

The U.S. Department of Education has adopted the change of ownership and control standards used by the federal securities laws for institutions owned by publicly-held corporations. Upon a change of ownership and control sufficient to require us to file a Form 8-K with the SEC, UPX and WIU would cease to be eligible to participate in Title IV programs until recertified by the U.S. Department of Education. Under some circumstances, the U.S. Department of Education may continue the institution’s participation in the Title IV programs on a temporary basis pending completion of the change in ownership approval process. This recertification would not be required, however, if the transfer of ownership and control was made upon a person’s retirement or death and was made either to a member of the person’s immediate family or to a person with an ownership interest in us who had been involved in its management for at least two years preceding the transfer. In addition, some states where UPX or WIU is presently licensed have requirements governing change of ownership or control. See Item 1A, “Our Acting Executive Chairman of the Board and his son control 99.9% of our voting stock and control substantially all actions requiring the vote or consent of our shareholders.” Moreover, UPX and WIU are required to report any material change in stock ownership. In the event of a material change in stock ownership, HLC may seek to evaluate the effect of such a change of stock ownership on UPX’s, CFP’s and WIU’s continuing operations.

 

U.S. Department of Education Audits.   From time to time as part of the normal course of business, UPX and WIU are subject to periodic program reviews and audits by regulating bodies. The U.S. Department of Education, Office of Inspector General (“OIG”), conducted an audit of UPX for the period September 1, 2002 through

March 31, 2004. On December 22, 2005, the OIG issued an audit report on their review of UPX’s policies and procedures for the calculation and return of Title IV funds. The OIG concluded that UPX had policies and procedures that provide reasonable assurances that it properly identified withdrawn students, appropriately determined whether a return of Title IV funds was required, returned Title IV funds for withdrawn students in a timely manner and used appropriate methodologies for most aspects of calculating the return of Title IV funds. The OIG did conclude, however, that UPX did not use appropriate methodologies for calculating the percentage of Title IV financial aid earned from March 1, 2004 through December 7, 2004. Since December 8, 2004, UPX has adopted the methodologies deemed appropriate by the U.S. Department of Education. On November 3, 2006, the U.S. Department of Education issued a preliminary audit determination letter (“PADL”) concerning UPX’s administration of the Title IV federal student aid programs regarding this matter. On June 7, 2007, UPX responded to the PADL request with results of the file review. The U.S. Department of Education will ultimately issue a final audit determination letter regarding the return of Title IV funds. UPX has accrued $3.7 million, which is its best estimate of the refund liability. While the outcome of the OIG audit proceedings is pending, management does not expect a material adverse effect on our business, financial position, results of operations, or cash flows to result from these actions.

 

Other Matters

 

The information required by Item 101(b) of Regulation S-K is provided under Note 16, “Segment Reporting,” in Notes to Consolidated Financial Statements, regarding segment and related geographic information.

 

We will make available free of charge on our website our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and all amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as soon as reasonably practicable after such reports are electronically filed with, or furnished to, the SEC. Our website address is www.apollogrp.edu.

 

 

You should carefully consider the risks and uncertainties described below and all other information contained in this Annual Report on Form 10-K. In order to help assess the major risks in our business, we have identified many, but not all, of these risks. Due to the scope of our operations, a wide range of factors could materially affect future developments and performance.

 

If any events occur that give rise to the following risks, our business, financial condition, cash flow or results of operations could be materially and adversely affected, and as a result, the trading price of our Class A common stock could be materially and adversely impacted. These risk factors should be read in conjunction with other information set forth in this Annual Report, including our Consolidated Financial Statements and related Notes.

 

Risks Related to the Control Over Our Voting Stock

 

Our Acting Executive Chairman of the Board and his son control 99.9% of our voting stock and control substantially all actions requiring the vote or consent of our shareholders.

 

Dr. John G. Sperling, our Acting Executive Chairman of the Board and Founder, and his son, Peter V. Sperling, who is also one of our directors as well as our Senior Vice President and Secretary, control the John Sperling Voting Stock Trust and the Peter Sperling Voting Stock Trust, which together collectively own 99.9% of our voting securities, Apollo Group Class B common stock. Through their control of these trusts, Dr. Sperling, or Dr. Sperling and Mr. Sperling together, control the election of all members of our Board of Directors and substantially all other actions requiring a vote of our shareholders, except in certain limited circumstances. Holders of our outstanding Apollo Group Class A common stock do not have the right to vote for the election of directors or for substantially any other action requiring a vote of shareholders, except in certain limited circumstances. In the event of Dr. Sperling’s passing, control of the John Sperling Voting Stock Trust, which holds a majority of the outstanding Apollo Group Class B common stock, will be exercised by a majority of three successor trustees: Mr. Sperling, Terri Bishop and Darby Shupp. See Item 12, “Security Ownership of Certain Beneficial Owners and Management and Related Stockholders Matters” and Item 1, “Business — Change of Ownership or Control” for more information.

We are a “Controlled Company” as defined in Rule 4350(c) of the Marketplace Rules of The NASDAQ Stock Market LLC, since more than 50% of the voting power of Apollo Group is held by the John Sperling Voting Stock Trust. As a consequence, we are exempt from certain requirements of Marketplace Rule 4350, including that (a) our Board be composed of a majority of Independent Directors (as defined in Marketplace Rule 4200), (b) the compensation of our officers be determined by a majority of the independent directors or a compensation committee composed solely of independent directors and (c) nominations to the Board of Directors be made by a majority of the independent directors or a nominations committee comprised solely of independent directors. However, Marketplace Rule 4350(c) does require that our independent directors have regularly scheduled meetings at which only independent directors are present (“executive sessions”) and IRC Section 162(m) does require a compensation committee of outside directors (within the meaning of Section 162(m)) to approve stock option grants to executive officers in order for us to be able to claim deductions with respect to the compensation attributable to the expense of such stock options granted. Notwithstanding the foregoing exemptions, we do have a majority of independent directors on our Board of Directors and we do have an Audit Committee, Compensation Committee and a Nominating and Governance Committee composed entirely of independent directors.

 

The charters for the Compensation, Audit and Nominating and Governance Committees have been adopted by the Board of Directors and are available on our website, www.apollogrp.edu. These charters provide, among other items, that each member must be independent as such term is defined by the applicable rules of The NASDAQ Stock Market LLC and the SEC.

 

Risks Related to the Highly Regulated Industry in Which We Operate

 

If we fail to comply with the extensive regulatory requirements for our business, we could face significant monetary liabilities, fines and penalties, including loss of access to federal student loans and grants for our students.

 

As a provider of higher education, we are subject to extensive regulation on both the federal and state levels. In particular, the Higher Education Act and related regulations subject UPX and WIU, and all other higher education institutions that participate in the various federal student financial aid programs under Title IV of the Higher Education Act (”Title IV programs”) to significant regulatory scrutiny. We collected approximately 65% of our 2007 revenues from receipt of Title IV funds.

 

These regulatory requirements cover virtually all phases of our schools’ and programs’ operations, including educational program offerings, facilities, instructional and administrative staff, administrative procedures, marketing and recruiting, financial operations, payment of refunds to students who withdraw, acquisitions or openings of new schools or programs, addition of new educational programs and changes in our corporate structure and ownership.

 

The Higher Education Act mandates specific regulatory responsibilities for each of the following components of the higher education regulatory triad: (1) the federal government through the U.S. Department of Education, (2) the accrediting agencies recognized by the U.S. Secretary of Education (the “Secretary of Education”) and (3) state education regulatory bodies.

 

The regulations, standards and policies of these regulatory agencies frequently change, and changes in, or new interpretations of, applicable laws, regulations, or standards could have a material adverse effect on our accreditation, authorization to operate in various states, permissible activities, receipt of funds under Title IV programs, or costs of doing business. We cannot predict with certainty how all of the requirements applied by these agencies will be interpreted or whether our schools will be able to comply with these requirements in the future.

 

If we are found to be in noncompliance with any of these regulations, standards or policies, any one of the regulatory agencies could do one or more of the following:

 

 

 

Consequently, any of the penalties, injunctions, restrictions or other forms of censure listed above could have a material adverse effect on our business. See “Business — Federal Financial Aid Programs.”

 

If we are not recertified to participate in Title IV programs by the U.S. Department of Education, we would lose eligibility to participate in Title IV programs.

 

UPX and WIU are eligible and certified to participate in Title IV programs. UPX’s current certification for Title IV programs expired in June 2007. In March 2007, UPX submitted its Title IV program participation recertification application to the U.S. Department of Education, and UPX’s eligibility continues on a month-to-month basis until the Department issues its decision on the application. WIU’s current certification for Title IV programs expires in June 2009. WIU will seek recertification before its certification expires. Generally, the recertification process includes a review by the U.S. Department of Education of the institution’s educational programs and locations, administrative capability, financial responsibility, and other oversight categories. The U.S. Department of Education could limit, suspend or terminate an institution for violations of the Higher Education Act or Title IV regulations, as described under “Regulatory Requirements” in the Business description above. If one of our institutions is not recertified, it would have a material adverse effect on our business. See “Business — Federal Financial Aid Programs.”

 

Action by the U.S. Congress to revise the laws governing the federal student financial aid programs or reduce funding for those programs could reduce our student population and increase our costs of operation.

 

The U.S. Congress must periodically reauthorize the Higher Education Act and annually determine the funding level for each Title IV program. The Higher Education Act has been extended to October 31, 2007, pending completion of the formal reauthorization process. In September 2007, the President signed the College Cost Reduction and Access Act, which contained a number of provisions affecting Title IV programs, including some provisions that had been in the Higher Education Act reauthorization bills. The U.S. Congress will either complete its reauthorization of the Higher Education Act or further extend additional provisions of the Higher Education Act. Changes to the Higher Education Act are likely to result from any further reauthorization and, possibly, from any extension of the remaining provisions of the Higher Education Act, but at this time we cannot predict all of the changes that the U.S. Congress will ultimately make. Any action by the U.S. Congress that significantly reduces Title IV program funding or the ability of our institutions or students to participate in Title IV programs could have a material adverse effect on our financial condition, results of operations and cash flows. Congressional action may also require us to modify our practices in ways that could increase our administrative costs and reduce our profit margin, which could have a material adverse effect on our financial condition and results of operations.

 

If the U.S. Congress significantly reduced the amount of available Title IV program funding, we would arrange for alternative sources of financial aid for our students. We cannot assure that one or more private organizations would be willing to provide loans to students attending one of our schools or programs, or that the interest rate and other terms of such loans would be as favorable as for Title IV program loans. In addition, private organizations could require us to guarantee all or part of this assistance and we might incur other additional costs. If we provided

more direct financial assistance to our students, we would incur additional costs and assume increased credit risks. See “Business — Regulatory Environment.”

 

Student loan defaults could result in the loss of eligibility to participate in Title IV programs.

 

In general, under the Higher Education Act, an educational institution may lose its eligibility to participate in some or all Title IV programs if its student loan cohort default rate equals or exceeds 25% for three consecutive years or 40% for any given year. If we lose our eligibility to participate in Title IV programs because of high student loan default rates, it would have a material adverse effect on our business. In addition, if its student loan default rate equals or exceeds 10%, the educational institution is required to delay for 30 days the release of federal student loan proceeds for first time borrowers and permanently loses the ability to participate in the “school-as-lender” program, among other penalties. If UPX’s student loan cohort default rate exceeds 10%, the limitations on our business could have a material adverse impact. With the expansion of the Axia College program, we anticipate an upward trend in student loan defaults based on the greater risk of student loan default presented by the Axia College demographic. See “Business — Federal Financial Aid Programs — Student Loan Defaults.”

 

If any regulatory audit, investigation or other proceeding finds us not in compliance with the numerous laws and regulations applicable to the post-secondary education industry, we may not be able to successfully challenge such finding and our business could suffer.

 

Due to the highly regulated nature of the post-secondary education industry, we are subject to audits, compliance reviews, inquiries, complaints, investigations, claims of non-compliance and lawsuits by federal and state governmental agencies, regulatory agencies, present and former students and employees, shareholders and other third parties, any of whom may allege violations of any of the regulatory requirements applicable to us. If the results of any such claims or actions are unfavorable to us, we may be required to pay monetary fines or penalties, be required to repay funds received under Title IV programs or state financial aid programs, have restrictions placed on or terminate our schools’ or programs’ eligibility to participate in Title IV programs or state financial aid programs, have limitations placed on or terminate our schools’ operations or ability to grant degrees and certificates, have our schools’ accreditations restricted or revoked, or be subject to civil or criminal penalties. Any one of these sanctions could adversely affect our financial condition, results of operations and cash flows and result in the imposition of significant restrictions on us and our ability to operate. See “Business — Regulatory Environment.”

 

If we fail to maintain our institutional accreditation, we would lose our ability to participate in Title IV programs.

 

UPX and WIU are institutionally accredited by HLC, one of the six regional accrediting agencies recognized by the Secretary of Education. Accreditation by an accrediting agency recognized by the Secretary of Education is required in order for an institution to become and remain eligible to participate in Title IV programs. The loss of accreditation would, among other things, render our schools and programs ineligible to participate in Title IV programs and would have a material adverse effect on our business. For proposed locations outside of North America, we are also required to obtain the approval of HLC. See “Business — Accreditation.”

 

If we fail to maintain any of our state authorizations, we would lose our ability to operate in that state and to participate in Title IV programs there.

 

UPX and WIU are authorized to operate and to grant degrees or diplomas by the applicable state agency of each state where such authorization is required and where we maintain a campus. In addition, eight states require UPX to obtain separate authorization for the delivery of distance education to residents of those states. Such state authorization is required for the campus located in the state or, in the case of states that require it, for UPX Online to offer post-secondary education and, in either case, for students at the campus or UPX Online to be eligible to participate in Title IV programs. The loss of such authorization would preclude the campus or UPX Online from offering post-secondary education and render students ineligible to participate in Title IV programs at least at those state campus locations or, in states that require it, at UPX Online and could have a material adverse effect on our business. See “Business — State Authorizations.”

A failure to demonstrate “administrative capability” or “financial responsibility” may result in the loss of eligibility to participate in Title IV programs.

 

If we fail to maintain ”administrative capability” as defined by the U.S. Department of Education, we could lose our eligibility to participate in Title IV programs or have that eligibility adversely conditioned, which would have a material adverse effect on our business. Furthermore, if we fail to demonstrate ”financial responsibility” under the U.S. Department of Education’s regulations, we could lose our eligibility to participate in Title IV programs or have that eligibility adversely conditioned, which would have a material adverse effect on our business. See “Business — Federal Financial Aid Programs — Standards of Financial Responsibility and Administrative Capability.”

 

Our schools and programs would lose their eligibility to participate in federal student financial aid programs if the percentage of our revenues derived from those programs were too high.

 

A proprietary institution loses its eligibility to participate in the federal student financial aid programs if it derives more than 90% of its revenues, on a cash basis, from federal student financial aid programs in any fiscal year. If we become ineligible to participate in federal student financial aid programs, it would have a material adverse effect on our business. See “Business — Federal Financial Aid Programs — The 90/10 Rule.”

 

We will be subject to sanctions if we fail to calculate and make timely payment of refunds of Title IV program funds for students who withdraw before completing their educational program.

 

The Higher Education Act and U.S. Department of Education regulations require us to calculate refunds of unearned Title IV program funds disbursed to students who withdraw from their educational program before completing it. If refunds are not properly calculated or timely paid, we may be sanctioned or subject to other adverse actions by the U.S. Department of Education, which could have a material adverse effect on our business. See “Business — Federal Financial Aid Programs.”

 

We are subject to sanctions if we pay impermissible commissions, bonuses, or other incentive payments to individuals involved in certain recruiting, admission, or financial aid activities.

 

A school participating in Title IV programs may not provide any commission, bonus, or other incentive payment based directly or indirectly on success in securing enrollments or financial aid to any person or entity engaged in any student recruitment or admission activity or in making decisions regarding the awarding of Title IV program funds. The law and regulations governing this requirement do not establish clear criteria for compliance in all circumstances. If the U.S. Department of Education determined that our compensation practices violated these standards, the U.S. Department of Education could subject us to monetary fines, penalties, or other sanctions. Any substantial fine, penalty, or other sanction could have a material adverse effect on our financial condition, results of operations and cash flows. See “Business — Federal Financial Aid Programs — Compensation of Representatives.”

 

If we were involved in conflicts of interest with student loan lenders, we could be subject to penalties and otherwise suffer adverse impacts on our business.

 

In 2007 the New York Attorney-General, several other attorneys-general, the United States Senate and House of Representatives Education Committees, and the United States Department of Education all launched investigations of potential conflicts of interest between university officials and various private lending organizations that provide student loans. These investigations are ongoing, but several universities and lending organizations have been implicated. Certain lenders, colleges and universities that have been implicated by these investigations have agreed to pay several million dollars in the aggregate to settle claims in this regard. In addition, several financial aid officials at other universities have been suspended or placed on leaves of absence. While no allegations have been raised concerning our institutions, we have received general requests for information from several state attorneys-general and state higher education regulatory agencies. We have no reason to believe that any of our employees have engaged in improper conduct in this regard. If any such impropriety were found, we could be subject to penalties and other adverse consequences. See “Business — Federal Financial Aid Programs.”

If IPD’s Client Institutions were sanctioned due to non-compliance with Title IV requirements, we could suffer adverse impacts on our business.

 

IPD provides a number of services to clients that are regionally accredited private colleges and universities, defined above as IPD Client Institutions. IPD provides its Client Institutions numerous consulting services in exchange for a contractual share of the Client Institution’s tuition revenues. If one or more IPD Client Institutions were sanctioned for noncompliance with Title IV requirements and such sanction(s) were to have a material adverse effect on enrollments and tuition revenue of such IPD Client Institution, it could have a material adverse effect on our business.

 

The complexity of regulatory environments in which we operate has increased and may continue to increase our costs.

 

Our business is subject to increasingly complex corporate governance, public disclosure, accounting and tax requirements and environmental legislation that have increased both our costs and the risk of noncompliance. Because our Class A common stock is publicly traded, we are subject to certain rules and regulations for federal, state and financial market exchange entities (including the SEC and Nasdaq). We have implemented new policies and procedures and continue developing additional policies and procedures in response to recent corporate scandals and laws enacted by Congress. Without limiting the generality of the foregoing, we have made a significant effort to comply with the provisions of the Sarbanes-Oxley Act of 2002 (including, among other things the development of policies and procedures to satisfy the provisions thereof regarding internal control over financial reporting, disclosure controls and procedures and certification of financial statements appearing in periodic reports) and the formation of a compliance department to develop policies and monitor compliance with laws (including, among others, privacy laws, export control laws, rules and regulations of the Office of Foreign Asset Controls and the Foreign Corrupt Practices Act). Our effort to comply with these new regulations have resulted in, and are likely to continue resulting in, increased general and administrative expenses and diversion of management time and attention from revenue generating activities to compliance activities. See “Business — Regulatory Environment.”

 

Risks Related to Our Business

 

If we are unable to successfully conclude the litigation, governmental investigations and inquiries pending against us, our business, financial condition, results of operations and growth prospects could be adversely affected.

 

We, certain of our subsidiaries, and our current and former directors and executive officers have been named as defendants in lawsuits alleging violations of the federal securities laws. In addition, certain government agencies are conducting inquiries regarding us, including the DOJ and Internal Revenue Service. We are also subject to various other lawsuits, investigations and claims, covering a range of matters, including, but not limited to, claims involving shareholders and routine employment matters. Please see Item 3 of this Annual Report on Form 10-K and Note 15 “Commitments and Contingencies” of the notes to our consolidated financial statements of this Annual Report on Form 10-K for a detailed discussion of these matters.

 

We cannot predict the ultimate outcome of these matters and expect to incur significant defense costs and other expenses in connection with them. Such costs and expenses could have a material adverse effect on our business, financial condition, results of operations and the market price of our common stock. We may be required to pay substantial damages or settlement costs in excess of our insurance coverage related to these matters, which could have a further material adverse effect on our financial condition or results of operations.

 

While we continue in our efforts to cooperate with the government investigations, we cannot predict the duration or outcome of the investigations, and the investigations may expand, and other regulatory agencies may become involved. The outcome and costs associated with these investigations could have a material adverse effect on our business, financial condition, or results of operations, and the investigations could result in adverse publicity and divert the efforts and attention of our management team from our ordinary business operations. The government investigations and any related legal and administrative proceedings could also include the institution of administrative, civil injunctive, or criminal proceedings against us and/or our current or former officers or employees, the imposition of fines and penalties, suspensions and/or other remedies and sanctions.

We may not be able to sustain our recent growth rate or profitability, and we may not be able to manage future growth effectively.

 

Our ability to sustain our current rate of growth or profitability depends on a number of factors, including our ability to obtain and maintain regulatory approvals, our ability to maintain operating margins, our ability to recruit and retain high quality academic and administrative personnel at new campuses and competitive factors. Over the past three years, our growth has been predominately in our associate’s degree programs. If we are not able to sustain our growth rate in the associate’s degree programs, or fail to transition this growth to our bachelor’s degree, advanced degree and other potential new programs, our business could be adversely affected. In addition, growth and expansion of our operations may place a significant strain on our resources and increase demands on our management information and reporting systems, financial management controls and personnel. Although we have made a substantial investment in augmenting our financial and management information systems and other resources to support future growth, we cannot assure you that we will be able to manage further expansion effectively. Failure to do so could adversely affect our business, results of operations and cash flows.

 

If we cannot maintain student enrollments, our results of operations may be adversely affected.

 

Our strategy for growth and profitability depends, in part, upon managing attrition rates as well as increasing student enrollments in our schools and programs. Attrition rates are often due to factors outside our control. Many students face financial, personal, or family constraints that require them to withdraw from the school or the program. If we are unable to control the rate of student attrition, the overall enrollment levels are likely to decline. Also, to attract more students, we must develop and implement marketing and student recruitment programs, which may not succeed. If we cannot maintain and increase student enrollments, including retention of students in one or more degree programs, our business, results of operations and cash flows may be adversely affected.

 

Our strategy involves the effective use of information technology; if we fail in implementing or adapting to new technologies, our results of operations may be adversely affected.

 

We have invested and continue to invest significant resources in information technology, which is a key element of our business strategy. Our information technology systems and tools could become impaired or obsolete due to our action or failure to act. For instance, we could install new information technology without accurately assessing its costs or benefits, or we could experience delayed or ineffective implementation of new information technology. Similarly, we could fail to respond in a timely or sufficiently competitive way to future technological developments in our industry. Should our action or failure to act impair or otherwise render our information technology less effective, this could have a material adverse effect on our business, results of operations and cash flows.

 

Our computer systems may be vulnerable to security risks that could disrupt operations and require us to expend significant resources.

 

We have devoted and will continue to devote significant resources to the security of our computer systems. Nevertheless, our computer systems may be vulnerable to unauthorized access, computer hackers, computer viruses and other security problems and system disruptions. A user who circumvents security measures could misappropriate proprietary information or cause interruptions or malfunctions in operations. As a result, we may be required to expend significant resources to protect against the threat of those security breaches or to alleviate problems caused by those breaches. These factors could result in liability under state and federal privacy statutes and legal actions by state attorneys-general and private litigants, any of which could have a material adverse effect on our business, results of operations and cash flows.

 

We face intense competition in the post-secondary education market.

 

Post-secondary education in our existing and new market areas is highly competitive. We compete with traditional public and private two-year and four-year colleges, other for-profit schools and alternatives to higher education, such as employment and military service. Some of our competitors, both public and private, have substantially greater financial and other resources than we have. Our competitors, both public and private, may offer

programs similar to ours at a lower tuition level as a result of government subsidies, government and foundation grants, tax-deductible contributions and other financial sources not available to for-profit institutions. In addition, many of our competitors have begun to offer distance learning and other online education programs. As the online and distance learning segment of the post-secondary education market matures, the intensity of competition is expected to increase. This intense competition could adversely affect our business, results of operations and cash flows.

 

Our expansion into new markets outside the United States, if successful, will subject us to risks inherent in international operations.

 

As part of our growth strategy, we intend to acquire or establish campuses or universities in new markets outside the United States. If we are successful in implementing our strategy, we will face risks that are inherent in international operations, including:

 

 

We may not be able to successfully complete or integrate future acquisitions.

 

As part of our growth strategy, we expect to consider selective acquisitions of proprietary educational institutions that complement our strategic direction. Any acquisition involves significant risks and uncertainties, including:

 

 

Acquisitions are inherently risky. We cannot be certain that our previous or future acquisitions will be successful and will not materially adversely affect our business, results of operations and cash flows. Future transactions may involve use of our cash resources, issuance of equity or debt securities, incurrence of other forms of debt or a significant increase in our financial leverage, which could adversely affect our financial condition and results of operations, especially if the cash flows associated with any acquisition are not sufficient to cover the additional debt service. If we issue equity securities as consideration in an acquisition, current shareholders’ percentage ownership and earnings per share may be diluted. In addition, if we were to acquire an educational institution, it could be considered a change in ownership and control of the acquired institution under applicable

regulatory standards. We would need approval from the U.S. Department of Education and most applicable state agencies and accrediting agencies and possibly other regulatory bodies when we were to acquire an institution. If we were unable to obtain such approvals with respect to an institution we acquired, depending on the size of that acquisition, that failure could have a material adverse effect on our business, results of operations and cash flows.

 

Natural disasters or terrorist acts could have an adverse effect on our operations.

 

Hurricanes, earthquakes, floods, tornados and other natural disasters or breaches of security at our physical campuses could disrupt our operations. Natural disasters or breaches of security that directly impact our physical facilities or ability to recruit and retain students and employees could adversely affect our ability to deliver our programs to our students and, thereby, adversely affect our results of operations. Furthermore, natural disasters or breaches of security could adversely affect the economy and demographics of the affected region, which could cause significant declines in the number of students who attend our schools in that region and have a material adverse effect on our results of operations.

 

The trading price of our common stock may fluctuate substantially in the future.

 

The trading price of our common stock may fluctuate substantially based on any of the foregoing risk factors as well as general economic conditions. Such fluctuation could prevent you from selling shares of our common stock at or above the price at which you purchase such shares. In addition, the stock markets from time to time experience extreme price and volume fluctuations that may be unrelated or disproportionate to our operating performance.

 

Risks Related to the Use of Incorrect Measurement Dates for Stock Option Grants and the Restatement

 

The matters relating to the investigation by the Special Committee of the Board of Directors and the restatement of our consolidated financial statements may result in additional litigation and governmental enforcement actions.

 

A Special Committee of our Board of Directors (the “Special Committee”), with the assistance of independent legal counsel and forensic accountants, conducted an independent review of our historical practices related to stock option grants (the “Independent Review”). Based on the Independent Review and our internal review of every stock option grant since our initial public offering (the “Internal Review”), we determined that incorrect measurement dates had been used for financial accounting purposes for many stock option grants made during the period June 1994 through August 2006. As a result, we recorded additional share-based compensation expense, and related tax effects, with regard to certain past stock option grants, and we restated certain previously issued financial statements as set forth in our Annual Report on From 10-K for the year ended August 31, 2006 and our Quarterly Reports on Form 10-Q for the quarters ended May 31, 2006, November 30, 2006 and February 28, 2007 (the “Restatement”).

 

The Internal Review, the Independent Review and related activities required that we incur substantial expenses for legal, accounting, tax and other professional services, have diverted management’s attention from our business and could in the future harm our business, financial condition, results of operations and cash flows.

 

We believe we made appropriate judgments in determining the correct measurement dates for our stock option grants. There is a risk, however, that we may have to further restate our previously issued financial statements, amend prior filings with the SEC, or take other actions not currently contemplated in connection with any of the other restated items.

 

Our past stock option practices and the resulting Restatement of previously issued financial statements have resulted in greater risks associated with litigation, regulatory proceedings and government enforcement actions. As described in Part I, Item 3, “Legal Proceedings,” litigation is now pending in state and federal courts against certain of our current and former directors and executive officers pertaining to allegations relating to stock option grants. We have fully cooperated with the government inquiries into these matters. We intend to continue full cooperation. No assurance can be given regarding the outcome of litigation, regulatory proceedings or government enforcement actions relating to our past stock option practices. The resolution of these matters may be time consuming and expensive and may distract management from the conduct of our business. Furthermore, if we are subject to adverse findings in litigation, regulatory proceedings or government enforcement actions, we could be required to pay

damages or penalties or have other remedies imposed, which could harm our business, financial condition, results of operations and cash flows.

 

We did not historically maintain effective controls over our activities related to accounting for tax liability under IRC Section 162(m). We did not maintain effective controls over the implementation, documentation and the administration of our share-based compensation plans. Specifically, we may have claimed deductions with respect to compensation attributable to the exercise of certain stock options, which may not qualify as performance-based compensation under IRC Section 162(m). As a result of this control deficiency, we may have claimed deductions with respect to those exercised options that were in excess of the limit imposed under IRC Section 162(m). We have accrued our best estimate, representing the high end of our estimated potential exposure, with respect to uncertain tax positions, including interest and penalties for the taxable years 2003 through 2007 (which are currently our only open years subject to adjustment for federal tax purposes) of approximately $44.6 million as of August 31, 2007. The ultimate amount we will be required to pay to settle all of our tax liabilities for prior years may differ from the amount accrued.

 

We are subject to the oversight of the SEC and other regulatory agencies, and investigations by those agencies could divert management’s focus and have a material adverse impact on our reputation and financial condition.

 

As a result of this regulation and oversight, we may be subject to legal and administrative proceedings. During fiscal 2007, we were the subject of an SEC inquiry and a DOJ investigation related to our historical stock option grant practices. While the SEC inquiry has been completed, the DOJ investigation has not yet been officially terminated. As a result of these inquiries and investigations, and shareholder actions, we have incurred, and may continue to incur, significant legal costs and a significant amount of time of our senior management has been focused on these matters that otherwise would have been directed toward the growth and development of our business. We have concluded our Internal Review of our stock option grant practices, and the SEC has notified us that it has closed its inquiry without recommending enforcement action. The DOJ has not informed us that its investigation is closed and we are unable to predict the effect, if any, that this investigation and the related shareholder lawsuits could have on our business and financial condition, results of operations and cash flow. We cannot assure that the DOJ or other government agencies will not seek to impose fines or take other actions against us that could have a significant negative impact on our financial condition. In addition, publicity surrounding the DOJ’s investigations, the derivative lawsuits and class action lawsuits, or any enforcement action, even if ultimately resolved favorably for us, could have a material adverse impact on our cash flows, financial condition, results of operations or business.

 

We had four material weaknesses in internal control over financial reporting as of August 31, 2006 that we identified during the year ended August 31, 2007 and we cannot assure you that additional material weaknesses will not be identified in the future. If our internal control over financial reporting or disclosure controls and procedures are not effective, there may be errors in our financial statements that could require a restatement or our filings may not be timely and investors may lose confidence in our reported financial information, which could lead to a decline in our stock price.

 

Management identified four material weaknesses in our internal control over financial reporting in connection with the preparation and filing of its fiscal 2006 Annual Report on Form 10-K. Section 404 of the Sarbanes-Oxley Act of 2002 requires us to evaluate the effectiveness of our internal control over financial reporting as of the end of each year and to include a management report assessing the effectiveness of our internal control over financial reporting in each Annual Report on Form 10-K. Section 404 also requires our independent registered public accounting firm to report on our internal control over financial reporting.

 

Our management, including our President and Chief Financial Officer, does not expect that our internal controls over financial reporting will prevent all error and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. Over time, controls may

become inadequate because changes in conditions or deterioration in the degree of compliance with policies or procedures may occur. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.

 

As a result, it cannot be assured that significant deficiencies or material weaknesses in our internal control over financial reporting will not be identified in the future. Any failure to maintain or implement required new or improved controls, or any difficulties we encounter in their implementation, could result in significant deficiencies or material weaknesses, cause us to fail to timely meet our periodic reporting obligations, or result in material misstatements in our financial statements. Any such failure could also adversely affect the results of periodic management evaluations and annual auditor attestation reports regarding disclosure controls and the effectiveness of our internal control over financial reporting required under Section 404 of the Sarbanes-Oxley Act of 2002 and the rules promulgated thereunder. The existence of material weaknesses could result in errors in our financial statements that could result in a restatement of financial statements, cause us to fail to timely meet our reporting obligations and cause investors to lose confidence in our reported financial information, leading to a decline in our stock price.

 

 

None.

 

 

In accordance with SFAS No. 5, “Accounting for Contingencies” (“SFAS 5”), when we become aware of a claim or potential claim, the likelihood of any loss or exposure is assessed. If it is probable that a loss will result and the amount of the loss can be reasonably estimated, we record a liability for the loss. The liability recorded includes probable and estimable legal costs associated with the claim or potential claim. If the loss is not probable or the amount of the loss cannot be reasonably estimated, we disclose the claim if the likelihood of a potential loss is reasonably possible and the amount is material. For matters where no loss contingency is recorded, our policy is to expense legal fees as incurred.

 

The following is a description of pending litigation and other proceedings that are outside the scope of ordinary and routine litigation incidental to our business.

 

Pending Litigation

 

Incentive Compensation Qui Tam Action

 

On August 29, 2003, the Company was notified that a qui tam action had been filed against it on March 7, 2003, in the U.S. District Court for the Eastern District of California by two current employees on behalf of themselves and the federal government. When the federal government declines to intervene in a qui tam action, as it has done in this case, the relators may elect to pursue the litigation on behalf of the federal government and, if they are successful, receive a portion of the federal government’s recovery. The qui tam action alleges, among other things, violations of the False Claims Act, 31 U.S.C. § 3729(a)(1) and (2), by UPX for submission of a knowingly false or fraudulent claim for payment or approval, and knowingly false records or statements to get a false or fraudulent claim paid or approved in connection with federal student aid programs, and asserts that UPX improperly compensates its employees. On or about October 20, 2003, a motion to dismiss the action was filed and was subsequently granted with leave to amend the complaint. Subsequently, a second amended complaint was filed on or about March 3, 2004. A motion to dismiss this amended complaint was filed on or about March 22, 2004, and the case was subsequently dismissed with prejudice. On June 11, 2004, an appeal was filed with the U.S. Court of Appeals for the Ninth Circuit. On September 5, 2006, the Ninth Circuit reversed the ruling of the district court and held that the relators had adequately alleged the elements of a False Claims Act cause of action. On January 22, 2007, UPX filed a Petition for Writ of Certiorari with the U.S. Supreme Court. On April 23, 2007, the U.S. Supreme Court denied UPX’s petition. As a result, the case has been remanded to the District Court in accordance with the order of the Ninth Circuit. In addition, on March 23, 2007, UPX filed a motion in the District Court to dismiss the complaint on the grounds that the September 7, 2004, settlement agreement between UPX and the U.S. Department of Education constituted an alternate remedy under the False Claims Act. That motion was denied on August 20, 2007. UPX has filed a motion seeking certification of the Court’s order for purposes of bringing an interlocutory appeal. The District Court has issued a Scheduling Order pursuant to which trial is set for September 2009. Rule 26 disclosures have been made and discovery is proceeding. While the outcome of this legal proceeding is uncertain, management does not expect a material adverse effect on the Company’s business, financial position, results of operations, or cash flows to result from this action. In addition, the Company cannot reasonably estimate a range of loss for this action and accordingly has not accrued any liability associated with this action.

 

Axia Qui Tam Action

 

On August 15, 2005, a relator filed a qui tam complaint under seal in the U.S. District Court for the District of Columbia. On April 12, 2006, the DOJ filed The Government’s Notice of Election to Decline Intervention in this qui tam lawsuit and on June 15, 2006, the court entered an order unsealing the complaint. An amended complaint was served on or about November 1, 2006. On November 15, 2006, the relator filed a Voluntary Notice of Dismissal. On November 17, 2006, the court ordered that the relator comply with the statutory requirements for dismissal of a qui tam False Claims Act action by December 1, 2006. On December 1, 2006, the United States consented to the dismissal of the action with prejudice as to the relator, so long as the dismissal is without prejudice as to the United States. On February 2, 2007, the court ordered the United States to articulate its reasons for consenting to the dismissal of the action. On February 21, 2007, the United States filed a Statement of Reasons for Consenting to Dismissal. While the outcome of this legal proceeding is uncertain, management does not expect a material adverse effect on the Company’s business, financial position, results of operations, or cash flows to result from this action. In

addition, the Company cannot reasonably estimate a range of loss for this action and accordingly has not accrued any liability associated with this action.

 

Securities Class Action

 

On approximately October 12, 2004, a class action complaint was filed in the U.S. District Court for the District of Arizona, captioned Sekuk Global Enterprises et al v. Apollo Group, Inc. et al , Case No. CV 04-2147 PHX NVW. A second class action complaint making similar allegations was filed on or about October 18, 2004, in the U.S. District Court for the District of Arizona, captioned Christopher Carmona et al v. Apollo Group, Inc. et al , Case No. CV 04-2204 PHX EHC. A third class action complaint making similar allegations was filed on or about October 28, 2004, in the U.S. District Court for the District of Arizona, captioned Jack B. McBride et al v. Apollo Group, Inc. et al , Case No. CV 04-2334 PHX LOA. The court consolidated the three pending class action complaints under the caption In re Apollo Group, Inc. Securities Litigation , Case No. CV04-2147-PHX-JAT and a consolidated class action complaint was filed on May 16, 2005 by the lead plaintiff. Lead plaintiff purports to represent a class of the Company’s shareholders who acquired their shares between February 27, 2004 and September 14, 2004, and seeks monetary damages in unspecified amounts. Lead plaintiff alleges violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated under the Act by the Company for defendants’ issuance of allegedly materially false and misleading statements in connection with their failure to publicly disclose the contents of the U.S. Department of Education’s program review report. A motion to dismiss the consolidated class action complaint was filed on June 15, 2005, on behalf of Apollo Group, Inc. and the individual named defendants. The court denied the motion to dismiss on October 18, 2005 and discovery commenced. The parties conducted discovery from October 2005 until discovery closed on February 16, 2007. On March 9, 2007, both parties filed motions for summary judgment. Opposition briefs were filed on May 11, 2007 and reply briefs were filed on June 8, 2007. The court denied both summary judgment motions on September 12, 2007. The case remains set for trial on November 14, 2007. While the outcome of this legal proceeding is uncertain, management does not expect a material adverse effect on the Company’s business, financial position, results of operations, or cash flows to result from this action. In addition, the Company cannot reasonably estimate a range of loss for this action and accordingly has not accrued any liability associated with this action.

 

Alaska Electrical Pension Fund Derivative Action

 

On September 5, 2006, the Alaska Electrical Pension Fund filed a shareholder derivative suit in the U.S. District Court for the District of Arizona, alleging on behalf of the Company that certain of the Company’s current and former officers and directors engaged in misconduct regarding stock option grants. Similar derivative complaints were filed in the same Court on or about September 19, 2006 and November 11, 2006 by other purported shareholders of the Company, and the three cases were consolidated by the Court under the caption Alaska Electrical Pension Fund v. Sperling, Case No. CV06-02124-PHX-ROS, on January 9, 2007. The defendants in the consolidated case are the Company, J. Jorge Klor de Alva, Daniel E. Bachus, John M. Blair, Dino J. DeConcini, Anthony F. Digiovanni, Kenda B. Gonzales, Hedy F. Govenar, Brian E. Mueller, Todd S. Nelson, Jerry F. Noble, Laura Palmer Noone, John R. Norton III, John G. Sperling, and Peter V. Sperling. An independent committee of the Board of Directors of the Company (“Special Committee”) was appointed and authorized to determine whether it is in the Company’s best interest to itself pursue the allegations made on behalf of the Company. Effective December 8, 2006, in response to an order by the Court on December 4, 2006, K. Sue Redman, who is not a party to the case, replaced Hedy F. Govenar on the Special Committee. As of March 13, 2007, James R. Reis joined the Special Committee in place of Daniel D. Diethelm. On July 2, 2007, all defendants and the Company filed Motions to Dismiss the case, and the Special Committee filed notice of its intent to terminate the action. On August 1, 2007, the court appointed as lead plaintiff Louisiana Municipal Police Employees’ Retirement System, and lead plaintiff filed a Second Amended Complaint on August 15, 2007. On August 17, 2007, the Special Committee filed a Motion to Terminate the action, based in part upon its conclusion that pursuit of the claims is not in the Company’s best interest. Discovery and briefing on the Motion to Terminate is presently expected to be completed by March 2008. While the outcome of this legal proceeding is uncertain, management does not expect a material adverse effect on the Company’s business, financial position, results of operations, or cash flows to result from this action. In addition, the Company cannot reasonably estimate a range of loss for this action and accordingly has not accrued any liability associated with this action.

EEOC v. UPX

 

On September 25, 2006, the Equal Employment Opportunity Commission (“EEOC”) filed a Title VII action against UPX captioned Equal Employment Opportunity Commission v. UPX , No. CV-06-2303-PHX-MHM, in the U.S. District Court for the District of Arizona on behalf of four identified individuals and an asserted class of unidentified individuals who were allegedly discriminated against because they were not members of the Church of Jesus Christ of Latter-day Saints. The Complaint also alleges that the identified individuals were retaliated against after complaining about the alleged discrimination. The EEOC did not serve its Complaint on UPX until November 21, 2006. UPX answered the Complaint on December 8, 2006, denying the material allegations asserted. An initial Scheduling Conference was held on February 15, 2007. The parties are currently engaged in discovery. While the outcome of this legal proceeding is uncertain, management does not expect a material adverse effect on the Company’s business, financial position, results of operations, or cash flows to result from this action. In addition, the Company cannot reasonably estimate a range of loss for this action and accordingly has not accrued any liability associated with this action.

 

Barnett Derivative Action

 

On April 24, 2006, Larry Barnett filed a complaint derivatively on behalf of the Company. The lawsuit was filed in the Superior Court for the State of Arizona, Maricopa County and is entitled Barnett v. John Blair et al , Case Number CV2006-051558. On October 10, 2006, plaintiff filed a First Amended Complaint adding allegations of stock option backdating. The complaint names as defendants the Company, John M. Blair, Dino J. DeConcini, Hedy F. Govenar, Kenda Gonzales, Todd Nelson, Laura Palmer Noone, John Norton, John G. Sperling and Peter V. Sperling. The First Amended Complaint alleges, among other things, that the individual defendants breached their fiduciary duties to the Company and that certain of the individual defendants were unjustly enriched by their receipt of backdated stock option grants. The plaintiff seeks, among other things, an award of unspecified damages and reasonable costs and expenses, including attorneys’ fees. On August 21, 2006, the Company filed a Motion to Stay the case arguing that it is not in the best interests of the Company to prosecute plaintiffs’ purported derivative claims prior to resolution of the parallel federal securities class action pending against the Company in federal district court as described under “Securities Class Action.” The individual defendants joined in the Motion to Stay. On November 10, 2006, after plaintiff filed the First Amended Complaint and added allegations of stock option backdating, the Company filed an Amended Motion to Stay arguing that the action should be stayed pending resolution of the federal securities class action and pending the Special Committee’s investigation into the allegations of stock option backdating. Also on November 10, 2006, the Company filed a motion to sever the claims relating to stock option backdating from the claims made in the original complaint. On January 29, 2007, the Court granted the Amended Motion to Stay for a period of six months. On June 12, 2007 the Court extended the Stay to November 5, 2007 and set a case management conference for November 13, 2007. In light of recent developments in the Securities Class Action, the Company will be moving shortly to extend the Stay until the Securities Class Action has concluded. In addition, the plaintiff filed a motion to lift the stay on August 31, 2007 in order to conduct discovery related to the Special Committee’s report regarding alleged stock option backdating. The Company has opposed this motion. While the outcome of this legal proceeding is uncertain, management does not expect a material adverse effect on the Company’s business, financial position, results of operations, or cash flows to result from this action. In addition, the Company cannot reasonably estimate a range of loss for this action and accordingly has not accrued any liability associated with this action.

 

Bamboo Partners Derivative Action

 

On August 15, 2006, Bamboo Partners filed a complaint derivatively on behalf of the Company and UPX. The lawsuit was filed in the U.S. District Court, District of Arizona and is entitled Bamboo Partners v. Nelson et al., Case Number 2:06-at-10858. The complaint names as defendants Apollo Group, Inc., UPX, Todd Nelson, Kenda Gonzales, Daniel Bachus, John G. Sperling, Peter V. Sperling, Laura Palmer Noone, John M. Blair, Dino J. DeConcini, Hedy F. Govenar and John Norton III. The complaint alleges, among other things, that the defendants violated Sections 10(B) of the Exchange Act and committed numerous breaches of fiduciary duties. The complaint seeks damages sustained by Apollo and UPX as a result of breaches of fiduciary duty, abuse of control and waste of corporate assets. The complaint seeks damages against Laura Palmer Noone for unjust enrichment. The complaint

also seeks attorneys’ fees, reasonable costs and disbursements. On November 13, 2006, the Company filed a Motion to Stay the case arguing that it is not in the best interests of the Company to prosecute plaintiffs’ purported derivative claims prior to resolution of the parallel federal securities class action pending against the Company in federal district court, as described above under “Securities Class Action.” The individual defendants joined in the Motion to Stay. The court granted the Company’s motion to stay on May 18, 2007. While the outcome of this legal proceeding is uncertain, management does not expect a material adverse effect on the Company’s business, financial position, results of operations, or cash flows to result from this action. In addition, the Company cannot reasonably estimate a range of loss for this action and accordingly has not accrued any liability associated with this action.

 

Teamsters Local Union Putative Class Action

 

On November 2, 2006, the Teamsters Local 617 Pension and Welfare Funds, filed a class action complaint purporting to represent a class of shareholders who purchased the Company’s stock between November 28, 2001 and October 18, 2006. The complaint alleges that the Company and certain of its current and former directors and officers violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder by purportedly making misrepresentations concerning the Company’s stock option granting policies and practices. The defendants are the Company, J. Jorge Klor de Alva, Daniel E. Bachus, John M. Blair, Dino J. DeConcini, Kenda B. Gonzales, Hedy F. Govenar, Todd S. Nelson, John R. Norton III, John G. Sperling, Peter V. Sperling, and Thomas C. Wier. Plaintiff seeks unstated compensatory damages and other relief. On January 3, 2007, other shareholders, through their separate attorneys, filed motions seeking appointment as lead plaintiff and approval of their designated counsel as lead counsel to pursue this action. On September 11, 2007, the court appointed The Pension Trust Fund for Operating Engineers as lead plaintiff and approved lead plaintiff’s selection of lead counsel and liaison counsel. The Company has not yet responded to the complaint in this action but intends to vigorously oppose plaintiffs’ allegations. While the outcome of this legal proceeding is uncertain, management does not expect a material adverse effect on the Company’s business, financial position, results of operations, or cash flows to result from this action. In addition, the Company cannot reasonably estimate a range of loss for this action and accordingly has not accrued any liability associated with this action.

 

Regulatory and Other Legal Matters

 

Student Financial Aid

 

All federal financial aid programs are established by the Higher Education Act and regulations promulgated thereunder. The Higher Education Act has an expiration date; in the past, if Congress did not reauthorize the Higher Education Act before its expiration date, Congress extended the authorization of the Higher Education Act. The Higher Education Act is set to expire on October 31, 2007.

 

The Higher Education Act specifies the manner in which the U.S. Department of Education reviews institutions for eligibility and certification to participate in Title IV programs. Every educational institution involved in Title IV programs must be certified to participate and is required to periodically renew this certification. UPX was recertified in June 2003 and its current certification for the Title IV programs expired in June 2007. However, in March 2007, UPX submitted its Title IV program participation recertification application to the U.S. Department of Education. We have been collaborating with the U.S. Department of Education regarding the UPX recertification application. Although we have submitted our application for renewal, we are continuing to supply additional follow-up information based on requests from the U.S. Department of Education. Our eligibility continues on a month-to-month basis until the U.S. Department of Education issues its decision on the application. A month-to-month status is not unusual considering the process is multi-faceted and iterative. We have no reason to believe that the application will not be renewed and expect that the renewal process will be completed satisfactorily. WIU was recertified in October 2003 and its current certification for the Title IV programs expires in June 2009.

 

U.S. Department of Education Audits

 

From time to time as part of the normal course of business, UPX and WIU are subject to periodic program reviews and audits by regulating bodies. On December 22, 2005, the U.S. Department of Education, Office of Inspector General (“OIG”), issued an audit report on their review of UPX’s policies and procedures for the

calculation and return of Title IV funds. The OIG concluded that UPX had policies and procedures that provide reasonable assurances that it properly identified withdrawn students, appropriately determined whether a return of Title IV funds was required, returned Title IV funds for withdrawn students in a timely manner and used appropriate methodologies for most aspects of calculating the return of Title IV funds. The OIG did conclude, however, that UPX did not use appropriate methodologies for calculating the percentage of Title IV financial aid earned from March 1, 2004 through December 7, 2004. Since December 8, 2004, UPX has adopted the methodologies deemed appropriate by the U.S. Department of Education. On November 3, 2006, the U.S. Department of Education issued a preliminary audit determination letter (PADL) concerning UPX’s administration of the Title IV federal student aid programs regarding this matter. On June 7, 2007, UPX responded to the PADL request with results of the file review. The U.S. Department of Education will ultimately issue a final audit determination letter regarding the return of Title IV funds. UPX has accrued $3.7 million, which is its best estimate of the refund liability. While the outcome of the OIG audit proceedings are on-going, management does not expect a material adverse effect on our business, financial position, results of operations, or cash flows to result from these actions.

 

Department of Justice Investigation

 

On June 19, 2006, we received a grand jury subpoena from the U.S. Attorney’s Office for the Southern District of New York requesting that we provide documents relating to our stock option grants. We are cooperating fully with this request.

 

SEC Informal Inquiry

 

On June 30, 2006, we were notified by letter from the SEC of an informal inquiry and the Commission’s request for the production of documents relating to our stock option grants. On July 3, 2007, the SEC notified us that it had closed its inquiry into our stock option grants, without recommending any enforcement action.

 

Nasdaq Proceeding

 

Our Annual Report on Form 10-K for 2006 and our Quarterly Reports on Form 10-Q for the quarters ended May 31, 2006, November 30, 2006, and February 28, 2007, were filed with the SEC on May 22, 2007, and an Amendment to the Quarterly Report on Form 10-Q/A for the quarter ended February 28, 2007, was filed with the SEC on May 25, 2007. On May 24, 2007, the Nasdaq Listing and Hearing Review Council determined that we demonstrated compliance with all Nasdaq Marketplace Rules and informed us that the Nasdaq delisting matter is now closed and our Class A Common Stock will continue to be listed on The Nasdaq Global Select Market.

 

IRC Section 162(m)

 

Certain tax deductions in prior years with respect to compensation attributable to the exercise of certain stock options by executive officers may be in question. Under IRC Section 162(m), the amount of such deduction per covered executive officer is limited to $1.0 million per year, except to the extent the compensation qualifies as performance based. Compensation attributable to options with revised measurement dates may not have qualified as performance-based compensation. Accordingly, we may have claimed deductions with respect to those exercised options that were in excess of the limit imposed under IRC Section 162(m). As a result, we have accrued our best estimate, representing the high end of our estimated potential exposure, with respect to uncertain tax positions, including interest and penalties for the taxable years 2003 through 2007 (which are currently our only open years subject to adjustment for federal tax purposes) of approximately $44.6 million as of August 31, 2007. For prior periods where a liability existed and where the statute of limitations has expired, the accrual relating to that period has been reversed in the period in which the statute expired.

 

 

PART II

 

Securities Authorized for Issuance under Equity Compensation Plans

 

The information required by Item 201(d) of Regulation S-K is provided under Item 12, Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters, “Equity Compensation Plan Information,” which is incorporated herein by reference.

 

 

The following lists the share repurchase program authorization dates and amounts as approved by our Board of Directors:

 

There is no expiration date on the repurchase authorizations and repurchases occur at our discretion. On October 5, 2007, the Board of Directors increased the authorization to repurchase up to $500 million of Apollo Group Class A common stock.

 

Company Stock Performance

 

The following graph compares the cumulative 5-year total return attained by shareholders on Apollo Group Class A common stock relative to the cumulative total returns of the S&P 500 index; a customized peer group of five companies that includes: Career Education Corp., Corinthian Colleges Inc, Devry Inc, ITT Educational Services, and Strayer Education Inc; as well as the University of Phoenix Online. An investment of $100 (with reinvestment of all dividends) is assumed to have been made in our common stock, in the index, and in the peer group on August 31, 2002, and its relative performance is tracked through August 31, 2007. The value shown for University of Phoenix Online common stock is shown through August 27, 2004, the date of its conversion to Apollo Group Class A common stock.

 

COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Apollo Group, Inc., University of Phoenix Online,
The S&P 500 Index And A Peer Group

 

 

 

Copyright ^© 2007, Standard & Poor’s, a division of The McGraw-Hill Companies, Inc. All rights reserved.

www.researchdatagroup.com/S&P.htm

 

 

The information contained in the performance graph shall not be deemed “soliciting material” or to be “filed” with the SEC nor shall such information be deemed incorporated by reference into any future filing under the Securities Act or the Exchange Act, except to the extent that we specifically incorporate it by reference into such filing.

 

The stock price performance included in this graph is not necessarily indicative of future stock price performance.

 

 

The following selected consolidated financial data and operating statistics are qualified by reference to and should be read in conjunction with the consolidated financial statements and the related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The statement of income data for the years ended August 31, 2007, 2006, and 2005, and the balance sheet data as of August 31, 2007 and 2006, were derived from the audited consolidated financial statements, included herein. Diluted income per share and diluted weighted average shares outstanding have been retroactively restated for stock splits. We restated the financial results of prior periods in our Annual Report on Form 10-K for 2006. Our annual report on Form 10-K for 2006 included a restated consolidated balance sheet as of August 31, 2005 and related consolidated statements of income for the years ended August 31, 2005 and 2004. The consolidated balance sheets as of August 31, 2004 and 2003, and the consolidated statement of income for the year ended August 31, 2003 have been restated, but such restated data has not been audited and are derived from the books and records of the Company.

 

The information set forth below is not necessarily indicative of results of future operations, and should be read in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and related notes thereto included in Item 8 of this Form 10-K to fully understand factors that may affect the comparability of the information presented below.