Annual Reports

  • 10-K (Feb 27, 2014)
  • 10-K (Feb 28, 2013)
  • 10-K (Feb 22, 2011)
  • 10-K (Feb 25, 2010)
  • 10-K (Feb 20, 2009)
  • 10-K (Feb 28, 2008)

 
Quarterly Reports

 
8-K

 
Other

Career Education 10-K 2006

QuickLinks -- Click here to rapidly navigate through this document



SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549


FORM 10-K

(Mark One)  
ý ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2005,

or

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                                    to                                   

Commission File Number 0-23245

CAREER EDUCATION CORPORATION
(Exact name of Registrant as specified in its charter)

Delaware
(State of or other jurisdiction of incorporation or organization)
  36-3932190
(I.R.S. Employer Identification No.)

2895 Greenspoint Parkway, Suite 600
Hoffman Estates, Illinois
(Address of principal executive offices)

 

60195
(zip code)

Registrant's telephone number, including area code: (847) 781-3600

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.01 par value
(Title of Class)

        Indicate by check mark whether the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act of 1933.    Yes ý    No o

        Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.    Yes o    No ý

        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 ý    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 (as defined in Rule 12b-2 of the Securities Exchange Act of 1934):

Large accelerated filer    ý Accelerated filer    o Non-accelerated filer    o

        Indicate by check mark whether the Registrant is a shell company, as defined in Rule 12b-2 of the Securities Exchange Act of 1934.    Yes o    No ý

        The aggregate market value of the Registrant's voting common stock held by non-affiliates of the Registrant, based upon the $36.61 per share closing sale price of the Registrant's common stock on June 30, 2005 (the last business day of the Registrant's most recently completed second quarter), was approximately $3,552,438,244. For purposes of this calculation, the Registrant's directors and executive officers have been assumed to be affiliates.

        Number of shares of Registrant's common stock, par value $0.01, outstanding as of March 2, 2006, was 98,186,573.

        Portions of the Registrant's Notice of Annual Meeting and Proxy Statement for the Registrant's 2006 Annual Meeting of Stockholders are incorporated by reference into Part III of this Report.




CAREER EDUCATION CORPORATION

FORM 10-K


TABLE OF CONTENTS

 
   
  Page
PART I   3
 
Cautionary Note Regarding Forward-Looking Statements

 

3
 
ITEM 1.

 

BUSINESS

 

3
  ITEM 1A.   RISK FACTORS   38
  ITEM 1B.   UNRESOLVED STAFF COMMENTS   45
  ITEM 2.   PROPERTIES   46
  ITEM 3.   LEGAL PROCEEDINGS   46
  ITEM 4.   SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS   46

PART II

 

47
  ITEM 5.   MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES   47
  ITEM 6.   SELECTED FINANCIAL DATA   48
  ITEM 7.   MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS   50
  ITEM 7A.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK   74
  ITEM 8.   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA   75
  ITEM 9.   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE   76
  ITEM 9A.   CONTROLS AND PROCEDURES   76
  ITEM 9B.   OTHER INFORMATION   77

PART III

 

78
  ITEM 10.   DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT   78
  ITEM 11.   EXECUTIVE COMPENSATION   78
  ITEM 12.   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS   78
  ITEM 13.   CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS   79
  ITEM 14.   PRINCIPAL ACCOUNTING FEES AND SERVICES   79

PART IV

 

80
  ITEM 15.   EXHIBITS, FINANCIAL STATEMENT SCHEDULES   80


PART I

Cautionary Note Regarding Forward-Looking Statements

        This Annual Report on Form 10-K contains "forward-looking statements," as defined in Section 21E of the Securities Exchange Act of 1934, as amended, that reflect our current expectations regarding our future growth, results of operations, cash flows, performance and business prospects, and opportunities, as well as assumptions made by, and information currently available to, our management. We have used words such as "anticipate," "believe," "plan," "expect," "intend," "will," and similar expressions, but these words are not the exclusive means of identifying these forward-looking statements. These statements are based on information currently available to us and are subject to various risks, uncertainties, and other factors, including, but not limited to, those discussed herein under the caption "Risk Factors," that could cause our actual growth, results of operations, financial condition, cash flows, performance and business prospects, and opportunities to differ materially from those expressed in, or implied by, these statements. Except as expressly required by federal securities laws, we undertake no obligation to update such factors or to publicly announce the results of any of the forward-looking statements contained herein to reflect future events, developments, or changed circumstances or for any other reason.


ITEM 1.    BUSINESS

        As used in this Annual Report on Form 10-K, the terms "we," us," "our," and "CEC" refer to Career Education Corporation and our wholly-owned subsidiaries. The term "school" refers to an individual, branded, proprietary educational institution, owned by us, including its campus locations. The term "campus" refers to an individual main or branch campus operated by one of our schools.

BUSINESS OVERVIEW

        We are a dynamic educational services company committed to quality, career-focused learning and led by passionate professionals who inspire individual worth and lifelong achievement. Since our founding in 1994, we have progressed rapidly toward our goal of becoming the world's leading provider of quality educational services. We are the world's largest on-ground provider of private, for-profit, postsecondary education and have a substantial and growing presence in online education. Our schools, which are segregated into two reporting segments, prepare students for professionally and personally rewarding careers through the operation of 86 campuses, including two online campuses, located throughout the United States and in France, Canada, and the United Kingdom.

        The College, Schools and Universities ("CSU") segment represents an aggregation of our on-ground schools that provide educational services primarily in a classroom or laboratory setting. Our CSU segment schools offer doctoral degree, master's degree, bachelor's degree, associate degree, and non-degree certificate and diploma programs in the following career-oriented disciplines:

    Business Studies: Programs within this discipline include business administration, business operations, e-commerce, merchandising management, paralegal studies, hospitality management, criminal justice, and education.

    Visual Communication and Design Technologies: Programs within this discipline include desktop publishing, graphic design, fashion design and merchandising, interior design, graphic imaging, web page design, animation, photography, video game design, and visual journalism.

    Health Education: Programs within this discipline include medical assistance, medical billing and coding, massage therapy, pharmacy technician, diagnostic medical ultrasound, cardiovascular technician, surgical technician, dental assistance, and medical office administration.

    Culinary Arts: Programs within this discipline include culinary arts, hotel and restaurant management, and pastry arts.

3


    Information Technology: Programs within this discipline include PC/LAN, PC/Net, computer technical support, computer network operation, computer information management, and computer programming.

        The operating results of our CSU segment schools fluctuate on a quarterly basis, primarily as a result of changes in student enrollment. Our CSU segment schools typically experience a seasonal increase in enrollment in the fall, traditionally when the largest number of new high school graduates begins postsecondary education. Furthermore, although we encourage year-round attendance at all campuses, certain programs offered by some of our CSU segment schools include summer breaks. As a result of these factors, total student enrollment and revenue for our CSU segment schools are typically highest in the fourth quarter (October through December) and lowest in the second quarter (April through June). Operating costs for our CSU segment schools do not fluctuate as significantly on a quarterly basis, except for admissions and advertising expenses, which are typically higher during the second quarter and third quarter (April through September) in support of seasonally high enrollment. We anticipate that these seasonal trends will continue.

        The Online Education Group ("OEG") segment represents an aggregation of the online campuses of American InterContinental University, American InterContinental University Online ("AIU Online"), and Colorado Technical University, Colorado Technical University Online ("CTU Online") and Stonecliffe College Online (an academic division of Colorado Technical University). Our schools' online campuses collectively offer degree programs in the career-oriented disciplines of information technology, computer science, business, visual communication, criminal justice, and education. These programs provide students with the knowledge and skills that we believe they will need to compete successfully in today's competitive job market.

        The results of operations of AIU Online fluctuate on a quarterly basis, primarily as a result of the campus' academic calendar and, more specifically, the number of instructional days in each quarter. Historically, the number of revenue-generating instructional days has been highest during the first and second quarters (January through June), lower in the third quarter (July through September), and lowest in the fourth quarter (October through December). The operating costs of AIU Online do not fluctuate as significantly on a quarterly basis. We anticipate that these seasonal trends will continue.

        The results of operations of CTU Online are not significantly impacted by seasonal trends, as, historically, the number of revenue-generating instructional days during each quarter and related operating costs have not fluctuated significantly.

        See Note 20 "Segment Reporting" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for further discussion of the financial results of our reporting segments for each of the last three years.

        Our total student population as of January 31, 2006, was approximately 104,200 students, including approximately 32,700 students enrolled at our OEG segment campuses. The percentage of our total student population by age group as of December 31, 2005 and 2004, was as follows:

 
  % of Total Student Population
 
Age Group

 
  2005
  2004
 
Under 21   22 % 28 %
21-30   46 % 46 %
Over 30   32 % 26 %

4


        Certain key information regarding each of our operating divisions, schools, and campuses is summarized in the following table:

School and Campus Locations
  Website
  Year School Founded
  Date Acquired/
Opened(1)

  Principal
Curricula(2)

ACADEMY DIVISION:                

International Academy of Design & Technology ("IADT")

 

 

 

1977(3)

 

 

 

B, IT, VC
  IADT—Chicago, Chicago, IL   www.iadtchicago.edu       6/97    
  IADT—Detroit, Troy, MI   www.iadtdetroit.com       10/03*    
  IADT—Las Vegas, Henderson, NV   www.iadtvegas.com       4/04*    
  IADT—Nashville, Nashville, TN   www.iadtnashville.com       7/04*    
  IADT—Orlando, Orlando, FL   www.iadt.edu       4/01*    
  IADT—Pittsburgh, Pittsburgh, PA   www.iadtpitt.edu       2/97    
  IADT—Schaumburg, Schaumburg, IL   www.iadtschaumburg.com       1/04*    
  IADT—Seattle, Seattle, WA   www.iadtseattle.com       10/04*    
  IADT—Tampa, Tampa, FL   www.academy.edu       6/97    
  IADT—Toronto, Toronto, Canada   www.iadt.ca       6/97    

COLLEGES DIVISION:

 

 

 

 

 

 

 

 

Briarcliffe College

 

www.bcl.org

 

1966

 

4/99

 

B, IT, VC
  Briarcliffe College, Bethpage and Queens, NY(4)                
  Briarcliffe College, Patchogue, NY                

Brooks College

 

www.brookscollege.edu

 

1970

 

 

 

IT, VC
  Brooks College, Long Beach, CA           10/94    
  Brooks College, Sunnyvale, CA           10/02*    

Brooks Institute of Photography, Santa Barbara and Ventura, CA(4)

 

www.brooks.edu

 

1945

 

6/99

 

VC

Brown College, Mendota Heights and Brooklyn Center, MN(4)

 

www.browncollege.edu

 

1946

 

10/95

 

B, HE, IT, VC

Collins College, Tempe and Phoenix, AZ(4)

 

www.collinscollege.edu

 

1978

 

1/94

 

IT, VC

Harrington College of Design, Chicago, IL

 

www.interiordesign.edu

 

1931

 

1/99

 

VC

Lehigh Valley College, Center Valley, PA

 

www.lehighvalley.edu

 

1869

 

10/95

 

B, HE, IT, VC

McIntosh College and Atlantic Culinary Academy, Dover, NH(5)

 

www.mcintoshcollege.edu

 

1896

 

3/99

 

B, CA, HE, IT, VC

CULINARY DIVISION:

 

 

 

 

 

 

 

 

California Culinary Academy, San Francisco, CA

 

www.baychef.com

 

1977

 

4/00

 

CA

California School of Culinary Arts, Pasadena, CA

 

www.csca.edu

 

1994

 

3/98

 

CA

The Cooking & Hospitality Institute of Chicago, Chicago, IL

 

www.chic.edu

 

1983

 

2/00

 

CA

Kitchen Academy, Hollywood, CA

 

www.kitchenacademy.com

 

2005

 

7/05*

 

CA

Le Cordon Bleu College of Culinary Arts ("LCB")

 

 

 

 

 

 

 

CA
  LCB—Atlanta, Tucker, GA   www.atlantaculinary.com   2003   10/03*    
  LCB—Las Vegas, Las Vegas, NV   www.vegasculinary.com   2003   7/03*    
  LCB—Miami, Miramar, FL   www.miamiculinary.com   2003   6/04*    
  LCB—Minneapolis/St. Paul, Mendota Heights, MN   www.twincitiesculinary.com   2000   1/00*    

Orlando Culinary Academy, Orlando, FL

 

www.orlandoculinary.com

 

2002

 

7/02*

 

CA

Pennsylvania Culinary Institute, Pittsburgh, PA

 

www.pci.edu

 

1986

 

12/01

 

CA
                 

5



Scottsdale Culinary Institute, Scottsdale, AZ

 

www.chefs.edu

 

1986

 

10/98

 

CA

Texas Culinary Academy, Austin, TX

 

www.tca.edu

 

1985

 

8/01

 

CA

Western Culinary Institute, Portland, OR

 

www.wci.edu

 

1983

 

10/96

 

CA

GIBBS DIVISION:

 

 

 

 

 

 

 

 

Gibbs College

 

www.gogibbs.com

 

1911(6)

 

5/97

 

B, HE, IT, VC
  Gibbs College, Cranston, RI                
  Gibbs College, Livingston, NJ                
  Gibbs College, Norwalk and Farmington, CT(4)                
  Gibbs College, Vienna, VA                
  Gibbs College of Boston, Inc., a private two-year college, Boston, MA                
  Katharine Gibbs School, Melville, NY                
  Katharine Gibbs School, New York, NY                
  Katharine Gibbs School, Norristown, PA           4/01*    
  Katharine Gibbs School, Piscataway, NJ                

HEALTH EDUCATION DIVISION:

 

 

 

 

 

 

 

 

Missouri College, St. Louis, MO

 

www.missouricollege.com

 

1963

 

9/02

 

HE, IT, VC

Sanford-Brown College ("SBC")

 

www.sanford-brown.edu

 

1866(7)

 

7/03

 

B, HE, IT
  SBC, Collinsville, IL                
  SBC, Fenton, MO                
  SBC, Hazelwood, MO                
  SBC, St. Charles, MO                
  SBC, West Allis, WI           6/05*    

Sanford-Brown Institute ("SBI")

 

www.sanford-brown.edu

 

1977(8)

 

7/03

 

HE
  SBI, Atlanta, GA                
  SBI, Dallas, TX                
  SBI, Ft. Lauderdale, FL                
  SBI, Garden City, NY                
  SBI, Houston, TX                
  SBI, Houston/North Loop, TX                
  SBI, Iselin, NJ                
  SBI, Jacksonville, FL                
  SBI, Landover, MD                
  SBI, Middleburg Heights, OH                
  SBI, New York, NY                
  SBI, Springfield, MA                
  SBI, Tampa, FL                
  SBI, Trevose, PA                
  SBI, White Plains, NY                

Western School of Health and Business Careers ("Western")

 

www.western-school.com

 

1980

 

8/03

 

B, HE, IT
  Western, Monroeville, PA                
  Western, Pittsburgh, PA                
                 

6



INTERNATIONAL DIVISION:

 

 

 

 

 

 

 

 

The INSEEC Group

 

www.inseec-france.com

 

1975(9)

 

2/03

 

B, HE, VC
  CEFIRE, Paris, France                
  ECE Bordeaux, Bordeaux, France                
  ECE Lyon, Lyon, France                
  INSEEC Bordeaux, Bordeaux, France                
  INSEEC Paris, Paris, France                
  MBA Institute, Paris, France                
  Sup de Pub, Paris, France                
  Sup Sante, Lyon, France                
  Sup Sante, Paris, France                

UNIVERSITY DIVISION:

 

 

 

 

 

 

 

 

American InterContinental University ("AIU")

 

www.aiuniv.edu

 

1970(10)

 

1/01

 

B, IT, VC
  AIU—Buckhead, Atlanta, GA                
  AIU—Dunwoody, Atlanta, GA                
  AIU—Houston, Houston, TX           10/03*    
  AIU—London, London, England                
  AIU—Los Angeles, Los Angeles, CA                
  AIU—Online   www.aiuonline.edu            
  AIU—South Florida, Weston, FL                

Colorado Technical University ("CTU")

 

www.coloradotech.edu

 

1965(11)

 

7/03

 

B, HE, IT, VC
  CTU, Colorado Springs and Pueblo, CO(4)                
  CTU, Denver, CO, and Denver North(4)                
  CTU, North Kansas City, MO                
  CTU, Online   www.ctuonline.edu            
  CTU, Sioux Falls, SD                
  Stonecliffe College Online(12)   www.stonecliffe.com            

(1)
Represents the date on which we acquired the school or individual campus. Start-up campuses that we opened after the initial school acquisition are marked by an "*." For start-up campuses, the date opened corresponds to the date on which students first matriculated.

(2)
Our schools offer degree and diploma programs within our core curricula of business studies ("B"), culinary arts ("CA"), health education ("HE"), information technology ("IT"), and visual communication and design technologies ("VC"). All of our campuses are degree-granting, with the exception of Katharine Gibbs School, Piscataway; Kitchen Academy; Sanford-Brown College, Collinsville; and all of our Sanford-Brown Institute campuses located outside of Florida.

(3)
Represents the year during which the first IADT campus in Chicago, IL, was founded.

(4)
The first location listed represents the school's main campus location and the second location listed represents a satellite campus of the school. We define a satellite campus as a separate location of a main or branch campus that is in reasonable geographic proximity to and is managed by the related main or branch campus. Satellite campuses are not included in our campus count.

(5)
Atlantic Culinary Academy ("ACA") is an academic division of McIntosh College. As such, we do not include ACA in our campus count.

(6)
Represents the year during which the first Gibbs campus in Providence, RI, was founded.

(7)
Represents the year during which the first Sanford-Brown College campus in Fenton, MO, was founded.

(8)
Represents the year during which the first Sanford-Brown Institute campus in New York, NY, was founded.

(9)
Represents the year during which the INSEEC Paris campus in Paris, France, was founded.

(10)
Represents the year during which the first AIU campus, AIU-Buckhead, in Atlanta, GA, was founded.

(11)
Represents the year during which the first CTU campus in Colorado Springs, CO, was founded.

(12)
Stonecliffe College Online is an academic division of CTU. As such, we do not include Stonecliffe College Online in our campus count.

7


        Not included in the above table are schools that have been sold or closed or have ceased admitting new students, including, the Montreal and Ottawa, Canada, and Fairmont, West Virginia campuses of IADT. The IADT—Montreal campus was sold during the first quarter of 2005. The IADT—Ottawa campus terminated operations during the first quarter of 2005 after all existing students completed their programs of study. We will terminate the operations of the IADT—Fairmont campus after all existing students have completed their programs of study.

Employees

        As of December 31, 2005, we had a total of approximately 17,180 employees, including approximately 2,730 students employed on a part-time basis at certain of our schools, as follows:

 
  Full-Time Non-Student Workers
  Part-Time Non-Student Workers
  Part-Time Student Workers
  Faculty
  Total
Corporate   580   10       590
Schools   7,420   210   2,730   6,230   16,590
   
 
 
 
 
  Total   8,000   220   2,730   6,230   17,180
   
 
 
 
 

        A limited number of our employees are represented by unions, although such employees are not currently subject to collective bargaining agreements. We generally consider our relations with our employees to be good.

INDUSTRY BACKGROUND

        The postsecondary education industry includes approximately 6,500 institutions that participate in federally-sponsored financial aid programs authorized by Title IV of the Higher Education Act of 1965, as amended ("HEA"), which we refer to as "Title IV Programs." According to the National Center for Education Statistics, approximately 17 million students enrolled in degree-granting, postsecondary institutions during the 2004-2005 academic year, and postsecondary education in the United States generated estimated revenues of $351 billion during the 2003-2004 academic year. Postsecondary education institutions are generally grouped into one of three sectors: (1) public, not-for-profit, (2) private, not-for-profit, and (3) private, for-profit. According to Eduventures, Inc., an information services company specializing in the education market, the private, for-profit sector includes approximately 2,500 institutions and approximately 1.6 million students participating in Title IV Programs. Eduventures, Inc. estimates that for-profit sector revenues during 2005 were approximately $17.6 billion.

        Since our founding in 1994, we have become a leader in the postsecondary education industry. We believe that our prospects for continued growth are supported by the following national, economic, demographic, and social trends that are converging to contribute to a growing demand for career-oriented, postsecondary education:

    According to Harris Nesbitt, enrollment in postsecondary education degree-granting programs will grow at an estimated annual rate of 1.1%, reaching 18.5 million students during the 2012-13 academic year. Furthermore, Harris Nesbitt estimates that overall postsecondary education revenues will increase to an estimated $573 billion during the 2012-13 academic year. Long-term factors expected to drive enrollment and revenue growth within the postsecondary education market include:

    A strengthening of employer-driven demand for skilled professionals;

    A strengthening of employee-driven demand as a result of increases in the earnings potential premium for employees with postsecondary degrees, the so-called "earnings gap";

8


    An increase in the number of potential students; and

    Wider societal acceptance of online degrees.

    According to Harris Nesbitt, for-profit, postsecondary revenues are forecasted to increase approximately 13.1% annually to nearly $33 billion in 2010, representing approximately 6.6% of the approximate $500 billion postsecondary education market revenue expected to be generated during that year.

    The United States Bureau of Labor Statistics ("BLS") projects that, by 2012, approximately 34% of jobs will require at least a bachelor's degree, an increase from 27% in 1992 and from 32% in 2002. By contrast, employment requiring education at a level no more advanced than that evidenced by a high school diploma is expected to comprise approximately 39% of the workforce by 2012, an anticipated decrease from approximately 47% during 1992 and approximately 41% during 2002.

    The recent proliferation of fully-online distance education programs is now enabling more adults to pursue both undergraduate and graduate-level education. According to Eduventures, Inc., projected enrollment in fully-online distance education programs grew by 30% in 2004 to an estimated 940,000 students. The annual growth rate of enrollment in fully-online distance education programs is expected to remain greater than 20% for at least the next three years, such that enrollment in fully-online distance education programs is expected to grow to approximately 1.8 million students in 2007.

    According to the BLS, 12 of the 20 occupations expected to grow the fastest between 2002 and 2012 are within the healthcare field, and five of the 20 occupations expected to grow fastest during this same period are within the information technology field.

    The earnings gap between high school graduates with no further formal higher education and those with higher education has been expanding over time, in particular for workers who have obtained a bachelor's degree or a more advanced degree. For example, in 2003, the average earnings for an individual with at least a bachelor's degree were approximately 83% greater than the average earnings for a person with only a high school diploma or equivalent.

Competition

        The postsecondary education industry is highly fragmented and competitive. The industry continues to consolidate, but no single institution claims a significant market share. Our schools compete with traditional public and private two-year and four-year colleges and universities, other proprietary institutions, including those that offer online education programs, and alternatives to postsecondary education, such as immediate employment and military service. We believe that our schools compete with other educational institutions principally based upon the quality of educational programs, reputation in the business community, program costs, and graduates' ability to find employment. Some public and private institutions are able to charge lower tuition for courses of study similar to courses of study offered by our schools due, in part, to government subsidies, government and foundation grants, tax-deductible contributions, and other financial resources not available to proprietary institutions. However, tuition at private, not-for-profit institutions is, on average, higher than the average tuition rates of our schools. Additionally, some of our competitors in both the public and private sectors may have substantially greater financial and other resources than we do.

9


BUSINESS AND OPERATING STRATEGY

        To compete successfully in today's demanding workplace, individuals require a solid educational foundation that provides them with the knowledge and skills they will use on the job. Our business and operating strategy is focused on establishing "schools of choice" in the postsecondary education market and enabling our schools to meet the needs and demands of our students. Our overall business strategy is built on the following four platforms: management of the business, people, compliance, and business expansion.

Management of the Business

        Emphasize Customer Service.    We believe that the effective, service of our customers is the foundation for our business and operating strategy. Our schools primary customers are our students. We continuously strive to maximize the overall quality of our customer service by focusing on the following key facets of the student's academic life-cycle:

    Student recruitment and admissions.  The student recruitment and admissions process begins when a student initially shows interest in attending one of our schools. Admissions representatives at our schools work with prospective students to determine the student's career goals and how our schools can assist them in achieving those goals.

    Enrolled student attending class.  Upon enrolling in a program at one of our schools, students consult with faculty and administrators to establish an academic path that will promote completion of their program and subsequent employment in their field of choice. Our financial aid professionals assist students in financing the costs of their program through the use of available sources of government and private assistance, including scholarship programs offered by our schools.

    Student graduation and employment.  As our students near the completion of their academic program, career services staff members at our campuses provide students with a variety of career development tools that are designed to help them secure employment or advancement in their field of choice.

        To effectively service the educational needs of our students, our schools offer a full range of educational options, including doctoral degree, master's degree, bachelor's degree, associate degree, and non-degree certificate and diploma programs. Our schools focus on the five core curricula listed in the table below, which we believe have traditionally provided quality employment opportunities for well-prepared graduates. The percentage of our student population by core curricula as of December 31, 2005 and 2004, was as follows:

 
  Percentage of Total Student Population
 
Core Curricula

 
  2005
  2004
 
Business Studies   45 % 41 %
Visual Communication and Design Technologies   23 % 26 %
Health Education   12 % 13 %
Culinary Arts   12 % 12 %
Information Technology   8 % 8 %

        The percentage of our total student population by degree or certificate program type as of December 31, 2005 and 2004, was as follows:

 
  Percentage of Total Student Population
 
Degree or Certificate Program Type

 
  2005
  2004
 
Doctoral, Master's, Bachelor's Degree   48 % 45 %
Associate's Degree   38 % 41 %
Certificate   14 % 14 %

10


        Promote Operational and Educational Excellence.    Our overall business strategy and growth initiatives are based on achieving operational and educational excellence throughout our organization. We intend to continue to build on our corporate culture, systems, and processes to advance our commitment to operational and educational excellence.

        Adhere to our Business Models.    Our business models are developed based on our assessment of our strengths, weaknesses, opportunities, and threats and our identification of our competitive advantages. Our business models are designed to capitalize on our competitive advantages and most effectively meet the needs of our customers. Unique business models are developed for each of our operating divisions in consideration of, among other things, each division's particular student and employer base, pricing strategy, marketing techniques, and product delivery methods. We believe our business models provide us and our operating divisions with a foundation for sustainable, long-term growth.

        Focus on Return on Investment.    We will continue to evaluate our existing investments to ensure that the returns generated by such investments are consistent with both our expectations and our overall objective of maximizing stockholder value. Furthermore, decisions regarding future investments will be made based on an evaluation of expected returns relative to our required return standards and the expected returns of other investment opportunities.

People

        Becoming a Preferred Employer.    We strive to be an employer of choice to ensure that we attract and retain highly skilled and motivated individuals at our schools and corporate offices to achieve operational and educational excellence throughout our organization. A significant part of our strategy focuses on providing our employees with formalized career-succession plans and implementing new employee training programs.

Compliance

        Becoming an Industry Leader in Compliance.    We are committed to building and maintaining an industry-leading compliance program. In furtherance of that mission, we have developed rules, policies, and standards to guide the conduct of our employees. Our compliance objectives include the development of processes and controls to help ensure compliance with applicable rules, standards, and laws. We believe that a key to meeting these objectives is our continued emphasis on individual and organizational responsibility for compliance.

Business Expansion

        Systematically Identify and Leverage Opportunities for Growth.    We continue to be a growth-oriented business with a commitment to deliver stockholder value through quality long-term growth that is strategic, targeted, and sustainable. Key components of our growth strategy include the continued growth of our online campuses, the establishment of new programs at our existing schools, the opening of new start-up or satellite campuses of our existing schools, the expansion of our hybrid learning model, and the pursuit of international expansion opportunities. As discussed below, the U.S. Department of Education ("ED") has placed certain restrictions on our ability to expand our educational offerings in the U.S. through acquisitions or the opening of new start-up campuses.

Growth Strategy

        We believe we can achieve quality, sustainable, long-term revenue and profitability growth by continuing to foster strong organic growth within our core business, complemented by a strategic acquisition strategy that focuses on both the domestic and international markets. We also continue to develop new product and service offerings that complement our core competencies.

11



        As previously disclosed, the ED notified us in June 2005 that it is reviewing our previously announced restated consolidated financial statements and our annual compliance audit opinions for the years 2000 through 2003. At the same time, the ED also advised us that it is evaluating pending program reviews that have taken place at certain of our schools, which are all included in our CSU segment. The ED has indicated that until these matters are addressed to its satisfaction, it will not approve any new applications by us for pre-acquisition review or change of ownership. The ED has further advised us that during this period, it will not approve applications for any additional branch campuses, which the ED refers to generally in its regulations as "additional locations."

        In February 2006, we received a letter from the ED notifying us that it is reviewing our 2004 compliance audit opinions and that the general restrictions imposed pursuant to its letter to us in June 2005 will remain in place as it continues its review. See Note 14 "Commitments and Contingencies—Federal Regulatory Actions" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for additional discussion of this matter.

        Growth of Online Education.    For students whose lifestyles demand a non-traditional learning environment, our schools' online campuses, AIU Online, CTU Online, and Stonecliffe College Online, the financial results and position of which are reported in our OEG segment, deliver a quality educational experience through 100% Internet-based courses. Our schools' online campuses have established a new standard for "E-learning" by offering online courses that deliver a well-rounded, comprehensive, multi-media learning experience. Our schools' online campuses offer students a "virtual" campus that replicates the learning environment students would experience if they attended a traditional on-ground campus, including access to Cybrary™, an online library that brings the full resources of an academic library to the student's computer, online financial aid application and processing, and 24-hour technical support.

        AIU Online offers 26 master's degree, bachelor's degree or associate's degree programs in the following eight career-oriented disciplines: business, criminal justice, education, healthcare management, information technology, digital design, marketing, and organizational psychology and development. All AIU Online programs are delivered on an accelerated basis.

        CTU Online was opened in October 2003 and offers master's degree, bachelor's degree, and professional certificate programs in business administration, criminal justice, and information technology. CTU online programs are less accelerated than AIU Online programs and are structured and scheduled in a manner similar to programs offered at our on-ground campuses.

        In the first quarter of 2006, Colorado Technical University introduced Stonecliffe College Online, an academic division of Colorado Technical University that offers 100% online associate degree programs on a non-accelerated, part-time basis. Stonecliffe College Online is our first campus that markets online program offerings specifically to students who prefer a slower pace to their online education. Stonecliffe College Online offers associate degree programs in business and criminal justice. We believe that Stonecliffe College Online will attract adult learners who are currently employed in the marketplace and high school graduates who are interested in a part-time online educational experience.

        Our schools' online campuses provide us with a unique opportunity to expand our business both domestically and internationally. Currently, students enrolled in our schools' online campuses live in all 50 U.S. states and over 60 countries throughout the world. In addition, more than 20% of the students who currently attend our schools' online campuses are either actively serving in or are retired from the U.S. military.

        We will continue to invest resources in the rapidly growing area of online education to promote further organic growth. We will also continue to explore the option of expanding our online presence through the offering of online programs at our existing schools and the introduction of new program offerings.

12



        On December 6, 2005, the Commission on Colleges of the Southern Association of Colleges and Schools ("SACS") notified American InterContinental University that SACS has placed the school on "Probation" status for one year pending the school's satisfactory remediation of certain accreditation matters with regards to SACS Principles of Accreditation. A status review of AIU's Probation status is currently scheduled for SACS December 2006 meeting. See Note 14 "Commitments and Contingencies—Accrediting Body Actions," of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of this matter. We cannot predict the outcome of SACS' pending accreditation action, and an unfavorable outcome could have a material adverse effect on our growth prospects with respect to our online programs.

        Growth of our CSU Segment Schools.    We believe that our CSU segment schools can continue to achieve organic growth in enrollment, revenue, and profitability through the successful execution of our business and operating strategies. As noted above under "Industry Background," the U.S. postsecondary education industry offers significant opportunities for short-term and long-term growth. We believe that many of our CSU segment schools are strategically positioned to take advantage of those growth opportunities, subject to the limitations on our growth in the U.S. imposed by the ED, as discussed above. In addition, we believe that many of the factors impacting the expected growth of the U.S. postsecondary education industry are also present in the international markets where certain of our CSU segment schools are located.

        We seek to increase enrollment at our CSU segment schools through concentrated local, regional, national, and Internet-based marketing programs designed to maximize each campus' market penetration. We continually strive to design marketing programs tailored to each of our campuses that highlight the quality of the educational programs offered and the job opportunities available to graduates of these programs.

        A key component of our CSU segment schools' growth strategy is the establishment of start-up branch campuses of our existing schools. Start-up branch campuses enable our schools to capitalize on new markets or geographic locations that exhibit strong enrollment potential or exhibit the potential to establish a successful operation based on one of our core curricula. To date, our schools have opened 16 start-up branch campuses. Our ability to open new start-up branch campuses is currently limited by the restrictions imposed by the ED, as discussed above.

        Another significant facet of our CSU school's growth strategy is the opening of new satellite campuses. We define a satellite campus as a separate location of a main or branch campus that is in reasonable geographic proximity to and is managed by the related main or branch campus. Satellite campuses allow us to expand the reach of our marketing plans. Satellite campuses also enable our students to attend a portion of their classes at locations that may be more convenient for them than the location of the related main or branch campus. To date, our schools have opened seven satellite campuses. Our ability to open new satellite campuses that provide 50% or more of an educational program offered by the related main or branch campus is limited by the restrictions imposed by the ED, as discussed above. However, our ability to open new satellite campuses that provide less than 50% of an educational program offered by the related main or branch campus is not affected by such restrictions.

        In addition to opening new start-up campuses and satellite campuses, we seek to foster growth by expanding program offerings at our CSU segment schools. Many of our schools are able to leverage educational programs that have been successful at one of our campuses by selectively establishing similar programs at other campuses. During 2005, our CSU segment schools introduced approximately 55 new program offerings.

        During 2005, we made advances in the development of our unique hybrid learning model, which capitalizes on our schools' online campuses' virtual campus platform and enables students at our on-ground campuses to complete approximately 50% of their academic program on-ground and approximately 50% of their academic program online. AIU and CTU were our first on-ground schools

13



to offer hybrid education programs as a compliment to those schools' existing online campuses. We expect to expand our hybrid learning offerings to other selected schools during 2006.

        Strategic Acquisitions.    Historically, a significant component of our overall growth has been driven by the completion of strategic acquisitions of postsecondary educational institutions both in the U.S. and in selected international markets. Subject to the restrictions currently imposed by the ED, we expect that strategic acquisitions will continue to be an important element of our overall long-term growth strategy. On an ongoing basis, we engage in evaluations of and discussions with potential acquisition candidates, including evaluations and discussions relating to acquisitions that may be material in size or scope.

        Our objective is to complete selective acquisitions of career-oriented schools with quality educational programs and capable faculty and staff that stand to benefit from our educational focus and marketing and operating strengths. Traditionally, we have targeted institutions for acquisition that we believe have the potential to generate strong financial and academic performance once the institutions have been integrated into our operating structure. Such institutions generally demonstrate many of the following characteristics:

    "Schools of Choice"—possessing leading reputations in career-oriented disciplines within local, regional, or national markets;

    Success—demonstrating the ability to attract, retain, graduate, and assist students in obtaining employment in their chosen fields;

    Marketable Curricula—offering programs that provide students with relevant training and the skills necessary to obtain attractive jobs and advance in their selected fields;

    Broad Marketability—capable of attracting recent high school graduates and adult students from local, national, and international markets; and

    Attractive Facilities and Geographic Locations—providing geographically desirable locations and modern facilities to attract students and enhance the learning experience.

        We also investigate any prospective acquisition target for its history of compliance with applicable federal, state, and accrediting body requirements, as we believe that such history is an indication of existing management's integrity, the likelihood of future regulatory costs and compliance issues, and the institution's overall condition from a compliance perspective. A history of significant compliance deficiencies will generally remove an institution from our consideration as an acquisition candidate.

        International Expansion.    We believe that the international market for our services represents a significant growth opportunity. We believe that international students are increasingly turning to online U.S. educational programs as a means of obtaining a U.S. education without incurring the high travel and living costs and facing the stringent visa requirements associated with studying abroad. Our belief is supported by the fact that the student population of our schools' online campuses includes students located in more than 60 countries. In addition, many U.S. residents live and work in foreign countries and could benefit from the opportunity to continue their education while outside the U.S. We have also continued to pursue opportunities to expand our on-ground presence internationally, both through the growth of our existing schools, such as our INSEEC Group, and through potential acquisitions of foreign educational institutions. The restrictions imposed by the ED do not affect our international expansion prospects.

        New Initiatives.    In October 2004, we announced the launch of our New Initiatives Group, whose mission is to expand the scope of our online business. The New Initiatives Group has initially focused on the development of a range of short-term online learning and informational programs that will generate revenue through the sale of products, premium content, and advertising space. The educational and informational focus of these online programs is aimed at the growing number of Internet consumers who are enthusiasts of topics related to our core curricula, including culinary arts,

14



health education, and information technology. Our new online development initiatives are designed to expand our reach into the broad consumer market with online offerings that target growing segments of Internet users.

        In October 2005, our New Initiatives Group launched Chefs.com, our first consumer-focused website. Chefs.com is a culinary "super-site" that provides consumers with interactive features, multi-media content, and a diverse recipe collection. In February 2006, our New Initiative Group launched Blish.com, a fully digital marketplace aimed at bringing together buyers and sellers of digital content. Utilizing Blish.com's easy-to-use web portal, owners of digital content may post their content for sale in real time, control the price of each item, and collect royalties from sales. Blish.com markets a wide array of digital content, including text files, such as e-books, manuals, and legal forms; computer-related items, such as software, video games, 3D modeling, and stock photography; audio files, including motivational seminars, academic lectures, and music tracks; and other consumer items such as ring tones, screen savers, mobile games, and video clips.

        Our New Initiatives Group will continue to develop additional enthusiast websites related to our core curricula in the future.

Student Recruitment and Admissions

        Our schools seek to attract highly motivated, career-oriented students with both the desire and ability to complete their academic programs of choice. To promote interest among potential students, each of our schools engages in a wide variety of marketing activities. Each of our campuses has an admissions office whose staff is responsible for identifying individuals interested in enrolling at the campuses ("leads"). Admissions representatives serve as prospective students' primary contacts, providing information to help them make an informed enrollment decision and assist them with the completion of the enrollment process. Our schools currently have approximately 3,300 admissions representatives servicing our students and potential students.

        Our schools' primary generator of leads is Internet-based advertising. Our Internet-based advertising strategy consists of co-branded micro-sites, banner advertisements, e-mail campaigns, and branded websites for each of our schools. Each of our schools' websites contains extensive information about the school and includes online enrollment capability. We expect this web-based information and enrollment capability to become an increasingly important, effective, and efficient aspect of our admissions activity.

        In addition to using Internet-based advertising, our schools utilize a variety of other advertising tools to reach prospective students, including referrals from current, former, and prospective students, television and print media advertisements in local, regional, and, sometimes, national markets, high school presentations made by school admissions representatives in local markets, and direct mailings to prospective students.

        The following table represents our estimated percentage of matriculating students, or "starts," generated by leads obtained from various sources during the years ended December 31, 2005 and 2004:

 
  Year Ended December 31,
 
 
  2005
  2004
 
Internet   63 % 44 %
Referrals   16 % 19 %
Television and print   12 % 20 %
High school presentations   3 % 4 %
Direct mailings   2 % 4 %
Other   4 % 9 %

        The admissions and entrance standards of each of our schools are intended to identify students who are equipped to meet the requirements of their chosen program of study. We believe that a

15



success-oriented student body ultimately results in higher retention and employment rates, increased student and employer satisfaction, and lower student default rates on government loans. Generally, to be qualified for admission to one of our schools, an applicant must have received a high school diploma or a recognized equivalent, such as a General Education Development certificate. Several of our schools also require applicants to meet other admissions requirements, such as obtaining certain minimum scores on assessment examinations.

Student Retention

        We continually emphasize the importance of student retention at each of our schools. As is the case at any postsecondary educational institution, a portion of our students fail to complete their academic programs for a variety of personal, financial, or academic reasons. Our experience indicates that significant increases in revenue and profitability can be achieved through modest improvements in student retention rates. Furthermore, the costs to our schools of retaining current students are generally much less than the expense of the marketing efforts associated with attracting new students.

        Student retention is a responsibility of each of the faculty members and administrators at our schools. To minimize the number of students who withdraw from our schools, faculty members and administrators strive to establish professional relationships with students and treat students as valued customers. Each school devotes significant resources to advising students regarding academic and financial matters, part-time employment, and other factors that may affect a student's success and ability to remain in school. In addition, our corporate and divisional support staff continuously monitor the retention rates of each of our campuses and provide feedback to local campus administrators. This corporate and divisional oversight also allows us to better identify regional and national trends that may be both positively and negatively impacting retention rates at our schools and enables us to develop best practices for improving student retention throughout our network of schools.

        Our retention rate for the years ended December 31, 2005, 2004, and 2003, was approximately 63.8%, 65.9%, and 67.3%, respectively. This rate was determined in accordance with the standards set forth by the Accrediting Council for Independent Colleges and Schools ("ACICS"), which determines annual retention rates by dividing the total number of student withdrawals or dismissals during the year by the sum of (a) beginning student population, (b) new student starts, and (c) student re-enters, and subtracting the resulting quotient from 1.

Student Graduation and Employment

        We place a high priority on assisting our students in graduating from their programs of study and securing employment in their careers of choice. We believe that the gainful employment of our students in their field of study is a key indicator of the success of our schools and the fulfillment of our educational mission. To emphasize the importance of our students' graduation and employment, we have designated 2006 as the "Year of the Graduate." We believe that our schools share with each student the responsibility for the student's long-term success. Our emphasis on providing personal support and assistance to our students is a hallmark of our educational model and, we believe, is a key factor that differentiates us from our competitors.

        Each of our campuses has a career services department whose primary responsibility is to assist our students in obtaining employment in their chosen fields of study after graduation. Career services staff members provide our students with a variety of career development instruction, which addresses, among other things, the preparation of resumés and cover letters, interviewing skills, networking, and other essential job-search tools, as well as ongoing career service resources, which are generally available to both current students and alumni. Annually, our campus' career services departments host two online job fairs and multiple on-campus job fairs to provide opportunities for current students and alumni to connect with local, regional, and national employers. Career services staff members also play a key role in marketing campus curriculum to the local and regional business community, which in turn generates job opportunities for our graduates. Career services staff members assist students in

16



identifying part-time employment, including participation in internship programs, while they are pursuing their education. Part-time employment opportunities are an important part of our campuses' overall success strategy, as these opportunities may lead to permanent positions for our students after graduation.

        As of January 31, 2006, we employed approximately 320 individuals in the career services departments of our campuses, of which approximately 30 individuals were employed as student employment coordinators. Student employment coordinators are primarily responsible for aiding current students in obtaining part-time employment.

Curriculum and Faculty Development

        We believe that the quality and relevance of our schools' curriculum is a key component of the success of our overall business strategy. Prospective students choose, and employers recruit from, career-oriented educational institutions based primarily on the type and quality of the curriculum offered and the education provided. The curriculum development efforts of our schools are a direct product of relationships and partnerships with the business and professional communities of the employers our schools serve. Each of our individual campuses has one or more program advisory boards composed of local and regional community members who are engaged in businesses directly related to that campus' educational offerings. These program advisory boards provide valuable input to campus faculty and administrators, allowing our campuses to maintain flexible, adaptable program curricula while providing our students with the training and skills that we believe employers in the local and regional business communities require.

        Our faculty members, many of whom are industry professionals, maintain regular contact with employers. Our schools hire a significant number of part-time faculty members who hold positions in relevant business and industry because, in many circumstances, specialized knowledge is required to teach many of the courses included in our schools' curricula and provide students with current, industry-specific training. Unlike instructors at many traditional colleges and universities, instructors at our schools are not awarded tenure and are regularly evaluated based upon, in part, the results of student evaluations.

        We recognize the importance of faculty development to the overall success of our students and our schools. We believe that ongoing faculty development enhances the overall success of our students and enhances the credibility and integrity of our schools. CEC, in partnership with our schools, designs and implements faculty development activities to assist our schools' faculty members in gaining knowledge in the theory and techniques of instruction, student support, and administrative procedures. Our schools also develop and implement tools to enhance faculty knowledge of teaching methodologies and subject matter. In addition, all faculty members are encouraged, but not required, to conduct education-oriented research, publish their research results and analyses, engage in continuing education, attend conferences, join and participate in professional organizations, develop related work experience, and mentor students.

        Faculty observations and evaluations are conducted by each of our campuses to provide instructors with input regarding their classroom performance. This input includes constructive suggestions for improvement and recognition of successful techniques used by the educator. We believe that these observations and evaluations help develop professional, competent instructors who are able to effectively use a variety of tools and techniques to educate and guide our students.

School Administration

        Our regionally-accredited schools are each overseen by a governing board that includes independent representation reflecting the public interest. These governing boards have broad and significant influence upon the schools' programs and operations, play an active role in policy-making, and ensure that the financial resources of their schools are adequate to provide a sound educational

17



program. In furtherance of that mission, each governing board develops policies appropriate to the needs of the school and works closely with the respective school's administration, or, in the case of our AIU and CTU multi-campus school systems, with those responsible for the centralized administration of the school, to, among other things, establish a climate for articulating and promoting the educational vision of the school.

        Certain of our other schools have also established governing boards that assist with the development of the academic and operating strategy for the school. These governing boards generally are comprised of several members of the local community who do not have an ownership interest in the school and one or more campus or corporate employees. Corporate management works closely with each of the governing boards to ensure compatibility among the governing board's objectives, the school's educational mission, and our overall business and operating strategy.

        Our regionally-accredited AIU and CTU schools are managed by a team of centralized administrators, headed by a chief executive officer, that is responsible for providing effective educational leadership and administering each of the schools in accordance with the schools' respective policies. In contrast, management of each of our other nationally or regionally-accredited schools is the primary responsibility of a campus president and the president's team of managers.

        Once our overall business strategy has been established, corporate management partners with campus administrators, or, in the case of our AIU and CTU schools, with centralized administrators, to establish campus-specific objectives that are tailored to meet the unique strengths and challenges of each of our campuses and the campuses' particular regulatory and educational environments. Corporate management then provides campus and centralized administrators with the necessary level of operational autonomy so that they may maintain a flexible operating environment that allows our campuses to adapt to the continuously changing marketplace.

        Each of our campuses has six primary operating departments: education, admissions, financial aid, career services, compliance, and accounting. Campus management is responsible for the day-to-day operations of the campus and, in partnership with their corporate counterparts in these functional areas, for implementing educational and financial strategies.

        Certain functions related to the operation of our campuses, including information technology and certain accounting, compliance, internal audit, and financial aid processing functions, have been or are in the process of being centralized at our corporate headquarters. We believe that efficiencies and cost reductions are gained by centralizing these functions.

        As previously discussed, each of our campuses has one or more program advisory boards, which are composed of local and regional community members who are engaged in businesses directly related to that campus' educational offerings. The primary function of the program advisory boards is to provide our campuses with insight into the local and regional business community's needs to help our campuses' faculty and administrators maintain flexible, adaptable program curricula while providing our students with the training and skills that such employers require. Program advisory boards at our campuses help to ensure consistency between academic program curricula and current workplace needs and strengthen relationships with prospective employers of our schools' graduates. Program advisory boards do not have decision-making authority for our campuses. Instead, program advisory boards act solely in an advisory capacity.

18


Corporate Governance Developments

        As previously disclosed, on May 20, 2005, our Board of Directors unanimously decided to expand the Board to add two new independent director positions. In December 2005, we announced the addition of two new members to our Board of Directors, Leslie T. Thornton and Patrick W. Gross. The appointment of Ms. Thornton and Mr. Gross increased the Board's size to the nine-member maximum established by our charter. In February 2006, we announced that Wallace O. Laub had resigned as a director effective February 13, 2006, and that our Board of Directors had appointed Steven H. Lesnik to the Board to fill the vacancy created by Mr. Laub's resignation. Currently, seven of the nine Board members are independent directors, as defined pursuant to the listing standards of The NASDAQ Stock Market, including Ms. Thornton and Messrs. Gross and Lesnik.

        As previously disclosed, the Nominating and Governance Committee (the "Committee") of our Board of Directors has continued to evaluate our corporate governance practices. During its review process, the Committee examined a full range of corporate governance measures, including a number of governance practices and policies that we already had adopted. The Committee's review included consultations with corporate governance experts and shareholders holding a majority of our shares. In July 2005, our Board of Directors approved certain corporate governance directives based upon the Committee's review and recommendations. These directives included an amendment to our Rights Agreement, dated May 28, 2002, with Computershare Investor Services, LLC, as Rights Agent, commonly referred to as a "poison pill," to accelerate the final expiration date of the preferred share purchase rights issued under the plan. Under the terms of the amendment, the preferred share purchase rights expired at the close of business on August 15, 2005, rather than May 28, 2012, as initially provided under the plan. The plan terminated immediately upon the expiration of the purchase rights.

        Additionally, our Board of Directors has adopted minimum stock ownership guidelines for our senior management and directors. Pursuant to our Executive Officer Stock Ownership Program (the "Program"), Program participants are required to maintain ownership of our common stock with a market value equal to a specified multiple of their base salary or, in the case of directors, a specified multiple of their annual retainer ("Ownership Targets"). The Program was effective as of September 1, 2005, and Program participants are required to meet Ownership Targets within five years of such date, or, in the case of new participants, within five years after the date that they became a participant of the Program. There are currently approximately 20 officers and directors who are required to participate in the Program.

        Our Board of Directors also adopted other measures to enhance our governance practices, including, as previously disclosed, a policy requiring approval for Board member participation on other boards of directors and a policy requiring continuing education for all Board members.

        Effective February 2, 2006, our Board of Directors approved and adopted our Second Amended and Restated By-laws, which amended and restated our Amended and Restated By-laws to change the required vote for the election of directors from a plurality to a majority of votes cast in uncontested elections. Under Article III, Section 3.2 of our Second Amended and Restated By-laws, the election of a director requires that the number of shares voted "for" a director must exceed the number of shares voted "against" that director. In contested elections, when the number of nominees exceeds the number of directors to be elected, the required vote will continue to be a plurality of votes cast. In addition, if a nominee who already serves as a director is not re-elected, the director must offer to tender his or her resignation to our Board of Directors. The Committee will make a recommendation to our Board on whether to accept or reject the resignation or whether other action should be taken. Our Board will act on the Committee's recommendation and publicly disclose its decision within 90 days from the date of the certification of the election results. The director who tenders his or her resignation will not participate in our Board's decision.

19



        On February 2, 2006, our Board of Directors approved certain additional enhancements to our corporate governance policies and intends to propose that such changes be adopted by our stockholders at our 2006 Annual Meeting of Stockholders. Specifically, on February 2, 2006, our Board of Directors adopted a resolution proposing to amend and restate our Amended and Restated Certificate of Incorporation to provide for the annual election of all directors beginning at the 2006 Annual Meeting of Stockholders and to allow stockholders holding at least sixty-six and two-thirds (662/3%) of the voting power of the shares entitled to vote at an election of directors to call a special meeting of stockholders. Article V of the Amended and Restated Certificate of Incorporation currently divides our Board of Directors into three classes. Directors are elected for three-year terms that are staggered among the three classes. If the proposed measure is approved by our stockholders, those directors previously elected for three-year terms of office by our stockholders will complete their three-year term and would be eligible for re-election for one-year terms at each annual meeting of stockholders thereafter. Beginning with our 2008 Annual Meeting of Stockholders, the declassification of our Board of Directors would be complete, and all directors would be subject to annual election of one-year terms.

        Article VI of the Amended and Restated Certificate of Incorporation currently provides that special meetings of stockholders may only be called pursuant to a resolution approved by a majority of our Board of Directors. Our Board of Directors has approved a measure which, if approved by our stockholders, would amend Article VI to allow stockholders holding at least sixty-six and two-thirds percent (662/3%) of the voting power of shares entitled to vote at an election of directors to call a special meeting of stockholders.

        On February 2, 2006, our Board of Directors also approved the amendment and restatement of our Second Amended and Restated By-laws, contingent upon approval by our stockholders of the proposed amendment and restatement of our Amended and Restated Certificate of Incorporation. Article II, Section 2.6 of the Second Amended and Restated By-laws currently provides that special meetings of our stockholders may be called only by our Board of Directors. If amended, Article II, Section 2.6 will allow stockholders holding at least sixty-six and two-thirds percent (662/3%) of the voting power of the shares entitled to vote at an election of directors to call a special meeting of stockholders, subject to certain specified conditions. Article III, Section 3.3 of the Second Amended and Restated By-laws currently provides that our directors may only be removed for cause. If our stockholders approve the proposed amendment and restatement of our Amended and Restated Certificate of Incorporation, Article III, Section 3.3 of the By-laws will be amended to provide that any director of our entire Board of Directors, excepting certain Continuing Classified Directors, as defined in the proposed Second Amended and Restated Certificate of Incorporation, may be removed from office at any time by the affirmative vote of the holders of a majority of the voting power of the shares entitled to vote at an election of directors. Our Third Amended and Restated By-laws, amending Article II, Section 2.6 and Article III, Section 3.3 of the Second Amended and Restated By-laws, will become effective simultaneously with the effective date of the filing of the Second Amended and Restated Certificate of Incorporation with the Secretary of State of the State of Delaware.

Important Information

        We plan to file with the Securities and Exchange Commission ("SEC") and mail to our stockholders a Proxy Statement in connection with our 2006 Annual Meeting, and advise our security holders to read the Proxy Statement relating to the 2006 Annual Meeting when it becomes available because it will contain important information. Security holders may obtain a free copy of the Proxy Statement and any other relevant documents, when available, that we file with the SEC at the SEC's web site at http://www.sec.gov. The Proxy Statement and these other documents may also be obtained free from us by directing a request to Career Education Corporation, ATTN: Investor Relations, 2895 Greenspoint Parkway, Suite 600, Hoffman Estates, IL 60195, or to Georgeson Shareholder Communications Inc. by toll-free telephone at 888 206-5970, or by mail at 17 State Street, 10th Floor, New York, NY 10004.

20



Certain Information Regarding Participants

        CEC, our directors, and named executive officers may be deemed to be participants in the solicitation of our security holders in connection with our 2006 Annual Meeting. Security holders may obtain additional information regarding the names, affiliations, and interests of such individuals in our proxy statement, dated April 21, 2005, which is filed with the SEC. To the extent holdings of CEC have changed since the amounts printed in the proxy statement, dated April 21, 2005, such changes have been reflected on Statements of Change in Ownership on Form 4 filed with the SEC.

STUDENT FINANCIAL AID AND THE REGULATION OF THE POSTSECONDARY EDUCATION INDUSTRY

        We realize that many students require assistance in financing their education. For this reason, all of our schools offer financial aid programs and financing options. A majority of students who attend our U.S.-accredited schools are eligible to participate in some form of government-sponsored financial aid program. Our schools also participate in a number of state financial aid programs and offer private funding options. Approximately 70% of our U.S. schools offer scholarship programs for students. Our schools that participate in federal financial aid programs are subject to extensive regulatory requirements imposed by federal and state government agencies, including the ED, and other standards imposed by educational accrediting bodies.

Nature of Federal Support for Postsecondary Education in the United States

        The U.S. government provides a substantial portion of its support for postsecondary education in the form of Title IV Program grants and loans to students who can use those funds to finance certain expenses at any institution that has been certified as eligible by the ED. These federal programs are authorized by the HEA.

        Generally, financial aid administered under Title IV Programs is awarded on the basis of financial need, which is generally defined under the HEA as the difference between the cost of attending an institution and the amount a student can reasonably be expected to contribute to that cost. Among other things, recipients of Title IV Program funds must maintain a satisfactory grade point average and progress in a timely manner toward completion of their program of study.

        Students at our schools may receive grants, loans, and work-study opportunities to fund their education under the following Title IV Programs, although not all of our schools participate in each of these programs:

        Federal Family Education Loan ("FFEL") Program.    Loans under the FFEL program are made by banks and other lending institutions directly to our students or their parents. If a student or parent defaults on a FFEL program loan, repayment is guaranteed by a federally recognized guaranty agency, which is then reimbursed by the ED. Our schools and students use a wide variety of lenders and guaranty agencies and have not experienced difficulties in identifying lenders and guaranty agencies willing to make and guarantee FFEL program loans. The two primary types of loans obtained by students at our schools under the FFEL program are Stafford loans and PLUS loans.

        Stafford loans, which may either be subsidized or unsubsidized, are loans made directly to our students by financial institutions that participate in the FFEL program. Students who have a demonstrated financial need are eligible to receive a subsidized Stafford loan, with the ED paying the interest on this loan while the student is enrolled at least half-time in school and during the first six months after leaving school. Students without a demonstrated financial need are eligible to receive an unsubsidized Stafford loan. The student is responsible for paying the interest on an unsubsidized Stafford loan while in school and after leaving school, although actual interest payments generally may be deferred by the student until after he or she has left school. Students who are eligible for a subsidized Stafford loan may also receive an unsubsidized Stafford loan.

21



        A student is not required to meet any specific credit scoring criteria to receive a Stafford loan, but any student with a prior Stafford loan default or who has been convicted under federal or state law of selling or possessing drugs may not be eligible for a Stafford loan. The ED has established maximum annual borrowing limits with respect to Stafford loans, and these annual limits are generally less than the tuition costs at our U.S. schools.

        A PLUS loan is a loan made directly by financial institutions to the parents of our dependent students. Parents who have an acceptable credit history can borrow under a PLUS loan to pay the educational expenses of a child who is a dependent student enrolled at least half-time at our U.S. schools. The amount of a PLUS loan cannot exceed the student's cost of attendance less all other financial aid received.

        Federal Grants.    Title IV Program grants are generally made to our students under the Federal Pell Grant ("Pell") program and the Federal Supplemental Educational Opportunity Grant ("FSEOG") program. The ED makes Pell grants up to a maximum amount of $4,050 per award year to students who demonstrate financial need. FSEOG program awards are designed to supplement Pell grants up to a maximum amount of $4,000 per award year for the neediest students. An institution is required to make a 25% matching contribution for all federal funds received under the FSEOG program.

        Federal Work-Study ("FWS") Program.    Generally, under the FWS program, federal funds are used to pay 75% of the cost of part-time employment of eligible students to perform work for the institution or certain off-campus organizations. The remaining 25% is paid by the institution or the student's employer. In select cases, these federal funds under the FWS program are used to pay 100% of the cost of part-time employment of eligible students.

        Federal Perkins Loan ("Perkins") Program.    Perkins loans are made from a revolving institutional account, 75% of which is capitalized by the ED and the remainder of which is funded by the institution. Each institution is responsible for collecting payments on Perkins loans from its former students and lending those funds to currently enrolled students. Currently, only one of our schools participates in the Perkins program.

ED Regulation of Federal Student Financial Aid Programs

        To participate in the Title IV Programs, an institution must be authorized to offer its programs of instruction by the relevant education agencies of the state in which it is located, accredited by an accrediting agency recognized by the ED, and certified as eligible by the ED. The ED will certify an institution to participate in Title IV Programs only after the institution has demonstrated compliance with the HEA and the ED's extensive regulations regarding institutional eligibility. An institution must also demonstrate its compliance with these requirements to the ED on an ongoing basis. These standards are applied primarily on an institutional basis, with an institution defined as a main campus and its additional campus locations, if any.

        As previously disclosed, the ED notified us in June 2005 that it is reviewing our previously announced restated consolidated financial statements and our annual compliance audit opinions for the years 2000 through 2003. At the same time, the ED also advised us that it is evaluating pending program reviews that have taken place at certain of our schools, which are all included in our CSU segment. The ED has indicated that until these matters are addressed to its satisfaction, it will not approve any new applications by us for pre-acquisition review or change of ownership. The ED has further advised us that during this period, it will not approve applications for any additional branch campuses.

        In February 2006, we received a letter from the ED notifying us that it is reviewing our 2004 compliance audit opinions and that the general restrictions imposed pursuant to its letter to us in June 2005 will remain in place as it continues its review. See Note 14 "Commitments and

22



Contingencies—Federal Regulatory Actions" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for additional discussion of this matter.

        State Authorization for U.S. Institutions.    State licensing agencies are responsible for the oversight of educational institutions, and continued approval by such agencies is necessary for an institution to operate and grant degrees or diplomas to its students. Moreover, under the HEA, approval by such agencies is necessary to maintain eligibility to participate in Title IV Programs. As a result, we are subject to extensive regulation in each of the states in which our schools operate campuses and in other states in which our schools recruit students. Currently, each of our U.S. campuses is authorized by its applicable state licensing agency or agencies.

        The level of regulatory oversight varies substantially from state to state. In certain states in which we operate, our campuses are subject to licensure by an agency that regulates proprietary institutions and also by a separate higher education agency. State laws establish standards for, among other things, student instruction, qualifications of faculty, location and nature of facilities, and financial policies. State laws and regulations may limit our campuses' ability to operate or to award degrees or diplomas or offer new degree programs. If any one of our campuses were to lose state authorization, it would be unable to offer educational programs, and students attending the campus would not be eligible to participate in Title IV Programs. Such severe penalties would require us to close a campus if it were to lose state authorization. See Note 14 "Commitments and Contingencies—State Regulatory Actions," of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of state regulatory matters currently affecting us and our schools.

        Accreditation for U.S. Institutions.    Accrediting agencies also are responsible for overseeing educational institutions, and, under the HEA, continued approval by an accrediting agency recognized by the ED is necessary for an institution to maintain eligibility to participate in Title IV Programs. Accreditation is a non-governmental process through which an institution submits to a qualitative review by an organization of peer institutions. Accrediting agencies primarily examine the academic quality of the institution's instructional programs, and a grant of accreditation is generally viewed as confirmation that an institution's programs meet generally accepted academic standards. Accrediting agencies also review the administrative and financial operations of the institutions they accredit to ensure that each institution has sufficient resources to perform its educational mission. Accrediting agencies must adopt specific standards in connection with their review of postsecondary educational institutions to be recognized by the ED. All of our U.S. campuses are accredited by one or more accrediting agencies recognized by the ED.

        Accrediting agency oversight may occur at several levels. An accrediting agency may place an institution on "Reporting" status to monitor one or more specified areas of performance. An institution placed on Reporting status is required to report periodically to its accrediting agency on its performance in the specified areas and to continue to submit such periodic reports for a specified period, which is generally one year, after which the institution is re-evaluated. An accrediting agency may place an institution on "Warning" status if it determines that the institution may be in danger of failing to comply with the accreditation requirement, or it may place an institution on "Probation" status if it determines that an institution appears to be deficient with regard to such requirement. In either instance, the institution is given a prescribed period to demonstrate that it has rectified the deficiency, which period may subsume two or more years. When an accrediting agency determines that a serious deficiency may exist, it may direct an institution to "Show Cause" as to why its accreditation should not be terminated. An institution under Show Cause is required to satisfy its accrediting agency within a prescribed period, generally less than one year, that it has satisfactorily resolved the deficiency. If any one of our campuses were to lose its accreditation, students attending the campus would not be eligible to participate in Title IV Programs. A campus' inability to participate in Title IV Program funding could require us to close the campus. See Note 14 "Commitments and Contingencies—Accrediting Body Actions" of the notes to our consolidated financial statements in Part IV, Item 15 of

23



this Annual Report on Form 10-K for a detailed discussion of accrediting agency matters currently affecting us and our schools.

        A listing of our U.S.-accredited schools, including all main and branch campus locations for regulatory purposes, and relevant accreditation information is provided in the following table.

School, Main Campus Location
(Branch campuses are in parentheses)
  Accreditor(1)
  Year of Accreditation Expiration(2)
 
American InterContinental University
Atlanta/Buckhead, GA (Atlanta/Dunwoody, GA; Weston, FL; Los Angeles, CA; Houston, TX; London, England; Dubai, United Arab Emirates; Online)(3)
  SACS   2012 (4)

Briarcliffe College
Bethpage, NY (Patchogue, NY)

 

MSA

 

2011

 

Brooks College
Long Beach, CA (Sunnyvale, CA)

 

ACCJC

 

2010

 

Brooks Institute of Photography
Santa Barbara, CA

 

ACICS

 

2006

 

Brown College
Mendota Heights, MN

 

ACCSCT

 

2007

 

California Culinary Academy
San Francisco, CA

 

ACCSCT

 

2010

 

California School of Culinary Arts
Pasadena, CA (Kitchen Academy, Hollywood, CA)

 

ACICS

 

2006

 

Collins College
Tempe, AZ

 

ACCSCT

 

2010

 

Colorado Technical University
Colorado Springs, CO (Denver, CO; North Kansas City, MO; Sioux Falls, SD; Online)

 

NCA

 

2012

 

The Cooking & Hospitality Institute of Chicago
Chicago, IL

 

NCA
(primary)
ACCSCT
(secondary)

 

2007

2007

 

Gibbs College
Cranston, RI

 

ACICS

 

2009

 

Gibbs College
Livingston, NJ (Katharine Gibbs School, Piscataway, NJ)

 

ACICS

 

2007

 

Gibbs College
Norwalk, CT

 

ACICS

 

2011

 

Gibbs College
Vienna, VA

 

ACICS

 

2006

 

Gibbs College of Boston, Inc, a private two-year college
Boston, MA

 

ACICS

 

2008

 
           

24



Harrington College of Design
Chicago, IL

 

ACICS
(primary)
NASAD
(secondary)

 

2008

2007

 

International Academy of Design & Technology
Chicago, IL (Troy, MI; Schaumburg, IL)

 

ACICS

 

2008

 

International Academy of Design & Technology
Pittsburgh, PA (Fairmont, WV; Nashville, TN)

 

ACICS

 

2007

 

International Academy of Design & Technology
Tampa, FL (Orlando, FL; Henderson, NV; Seattle, WA; Orlando Culinary Academy, Orlando, FL)

 

ACICS

 

2010

 

Katharine Gibbs School
Melville, NY

 

ACICS

 

2009

 

Katharine Gibbs School
New York, NY (Norristown, PA)

 

ACICS

 

2008

 

Lehigh Valley College
Center Valley, PA

 

ACICS

 

2009

 

McIntosh College
Dover, NH

 

NEASC

 

2008

 

Missouri College
St. Louis, MO

 

ACCSCT

 

2006

 

Pennsylvania Culinary Institute
Pittsburgh, PA (Le Cordon Bleu College of Culinary Arts Miami, Miramar, FL)

 

ACCSCT

 

2010

(5)

Sanford-Brown College
Fenton, MO (Collinsville, IL; Hazelwood, MO; St. Charles, MO, West Allis, WI)

 

ACICS

 

2011

 

Sanford-Brown Institute
Atlanta, GA (Houston, TX; Houston/North Loop, TX; Landover; MD; Ft. Lauderdale, FL; Middleburg Heights, OH; New York, NY; Trevose, PA)

 

ABHES
(primary)
ACICS
(secondary)

 

2007

2008

 

Sanford-Brown Institute
Dallas, TX (Garden City, NY)

 

ABHES
(primary)
ACICS
(secondary)

 

2009

2008

 

Sanford-Brown Institute
Jacksonville, FL (Iselin, NJ; Tampa, FL)

 

ACICS

 

2007

 

Sanford-Brown Institute
White Plains, NY (Springfield, MA)

 

ABHES

 

2007

 
           

25



Scottsdale Culinary Institute
Scottsdale, AZ (Le Cordon Bleu College of Culinary Arts Las Vegas, Las Vegas, NV)

 

ACCSCT

 

2010

 

Texas Culinary Academy
Austin, TX

 

ACICS

 

2009

 

Western Culinary Institute
Portland, OR (Le Cordon Bleu College of Culinary Arts Atlanta, Tucker, GA; Le Cordon Bleu College of Culinary Arts Minneapolis/St. Paul, Mendota Heights, MN)

 

ACCSCT

 

2007

(6)

Western School of Health and Business Careers
Pittsburgh, PA (Monroeville, PA)

 

ACCSCT

 

2005

(7)

(1)
Certain of our schools are accredited by more than one accrediting body. In these cases, the accreditors are reported to the ED as either primary or secondary for federal funding eligibility purposes. Below is a key to the accreditation abbreviations used in the table:

ABHES—Accrediting Bureau of Health Education Schools

ACCSCT—Accrediting Commission of Career Schools and Colleges of Technology

ACICS—Accrediting Council for Independent Colleges and Schools

MSA—Middle States Association of Colleges and Schools, Commission on Higher Education

NASAD—National Association of Schools of Art and Design

NEASC—New England Association of Schools and Colleges, Commission on Technical and Career Institutions

NCA—North Central Association of Colleges and Schools, Higher Learning Commission

SACS—Southern Association of Colleges and Schools, Commission on Colleges

ACCJC—Western Association of Schools and Colleges, Accrediting Commission for Community and Junior Colleges

(2)
Status as of March 1, 2006.

(3)
We have a profit sharing agreement with, but do not own any portion of, American University Dubai, which is a branch campus of our AIU school.

(4)
On December 6, 2005, SACS notified AIU that SACS has placed the school on Probation status for one year. A status review of AIU's Probation status is currently scheduled for SACS' December 2006 meeting. See Note 14 "Commitments and Contingencies—Accrediting Body Actions" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of this matter.

(5)
Accreditation for the Miramar branch campus expires in 2006.

(6)
Accreditation for the Tucker branch campus expires in 2010. Accreditation for the Mendota Heights branch campus expires in 2007.

(7)
Accreditation for the main campus has been extended until the ongoing reaccreditation process is completed. Accreditation for the Monroeville branch campus expired in 2004 but has been extended until the ongoing reaccreditation process is completed.

26


        Programmatic accreditation, while not a sufficient basis for institutional Title IV Program certification by the ED, enables graduates to practice or otherwise secure appropriate employment in their chosen field and has been granted by the following accrediting agencies with respect to the following individual programs taught at certain of our campuses:

Accrediting Body
  Campus
  Program Accredited
Accreditation Council for Occupational Therapy Education   Sanford-Brown College, Fenton
and Hazelwood
  Occupational Therapy Assistant Program

American Society of Health Systems Pharmacists

 

Western School of Health and Business Careers, Monroeville

 

Pharmacy assistant programs

Accrediting Board for Engineering and Technology

 

Colorado Technical University, Colorado Springs

 

Engineering programs

Accrediting Bureau of Health Education Schools

 

Colorado Technical University, North Kansas City; Sanford-Brown College, Collinsville and Hazelwood; Sanford-Brown Institute, Iselin, Jacksonville, and Tampa; Western School of Health and Business Careers, Pittsburgh and Monroeville

 

Medical assisting programs

Accrediting Bureau of Health Education Schools

 

Sanford-Brown Institute, Dallas, Iselin, Jacksonville, Lauderdale Lakes, Houston/North Loop, and Tampa

 

Surgical technology programs

American Culinary Federation Education Institute

 

California Culinary Academy, The Cooking & Hospitality Institute of Chicago, Orlando Culinary Academy, Pennsylvania Culinary Institute, Scottsdale Culinary Institute, Western Culinary Institute

 

Culinary Programs

American Dental Association Commission on Dental Accreditation

 

Missouri College

 

Dental assisting programs

American Veterinary Medical Association

 

Western School of Health and Business Careers, Pittsburgh

 

Veterinary technology programs

CAAHEP-Accreditation Review Committee on Education in Surgical Technology

 

Colorado Technical University, North Kansas City; Sanford-Brown College, Hazelwood; Sanford-Brown Institute, Houston, Iselin, Jacksonville, Lauderdale Lakes, and Tampa; Western School of Health and Business Careers, Monroeville

 

Surgical technology programs

CAAHEP-Committee on Accreditation for Respiratory Care

 

Sanford-Brown College, Fenton; Western School of Health and Business Careers, Monroeville

 

Respiratory therapy programs

CAAHEP Curriculum Review Board of the American Association of Medical Assistants Endowment

 

Colorado Technical University, Sioux Falls

 

Medical assisting programs
         

27



CAAHEP-Joint Review Committee on Education in Diagnostic Medical Sonography

 

Sanford-Brown Institute, Dallas, Houston, Iselin, and Middleburg Heights; Western School of Health and Business Careers, Pittsburgh

 

Diagnostic medical sonography programs

Council for Interior Design Accreditation

 

American InterContinental University, Buckhead and Los Angeles; Brooks College, Long Beach; Harrington College of Design; International Academy of Design and Technology, Chicago, Tampa, and Toronto

 

Interior design programs

Joint Review Commission on Education in Radiologic Technology

 

Colorado Technical University, North Kansas City; Sanford-Brown College, Fenton; Western School of Health and Business Careers, Pittsburgh

 

Diagnostic medical sonography programs

        Legislative Action.    The U.S. Congress must periodically reauthorize the HEA and other laws governing Title IV Programs and annually determines the funding level for each Title IV Program. In December 2005, Congress temporarily extended the provisions of the HEA, pending completion of the reauthorization process or further extensions of the HEA. In February 2006, as part of the Deficit Reduction Act of 2005, Congress made certain changes in the HEA that had been reflected in the HEA reauthorization bills. The changes enacted eliminate certain restrictions on online programs, increase, beginning in 2007, student loan limits for the first two academic years of a student's program of study, and make other technical changes. It is possible that Congress will not make further changes to the HEA during 2006 and, instead, extend current law, including the changes made as part of the Deficit Reduction Act of 2005. If Congress does address reauthorization, there may be certain further legislative changes. However, at this time, we cannot determine the scope, content, or effect of such changes. Any action by the U.S. Congress that significantly reduces Title IV Program funding or the ability of our schools or students to participate in Title IV Programs could have a material adverse effect on our student population, financial condition, results of operations, and cash flows. Legislative action may also require us to modify our practices for our schools to comply fully with applicable requirements. The adoption of any such modifications could result in additional administrative costs, which could have a material adverse effect on our financial condition, results of operations, and cash flows.

        Student Loan Default Rates.    An institution may lose eligibility to participate in some or all Title IV Programs if the rates at which former students default on the repayment of their federally-guaranteed or federally-funded student loans exceed specified percentages. An institution's cohort default rate under the FFEL program is calculated on an annual basis as the rate at which student borrowers scheduled to begin repayment of their loans in one federal fiscal year default on those loans by the end of the next federal fiscal year.

        An institution whose cohort default rates equal or exceed 25% for three consecutive years will no longer be eligible to participate in the FFEL or Pell programs for the remainder of the federal fiscal year in which the ED determines that such institution has lost its eligibility and for the two subsequent federal fiscal years. An institution whose cohort default rate under the FFEL program for any federal fiscal year exceeds 40% will no longer be eligible to participate in the FFEL program for the remainder of the federal fiscal year in which the ED determines that the institution has lost its eligibility and for the two subsequent federal fiscal years. An institution whose cohort default rate under the FFEL program equals or exceeds 25% for any one of the three most recent federal fiscal years, or whose

28



cohort default rate under the Perkins loan program exceeds 15% for any year, may be placed on provisional certification status by the ED for up to four years.

        All of our schools have implemented student loan default management programs aimed at reducing the likelihood of our students' failure to repay their loans in a timely manner. Those programs emphasize the importance of students' compliance with loan repayment requirements and provide for extensive loan counseling, methods to increase student persistence and completion rates and graduate employment rates, and proactive borrower contacts after students cease enrollment. If any of our schools were to lose eligibility to participate in Title IV Programs due to student loan default rates being higher than the ED's tolerable thresholds and we could not arrange for adequate alternative student financing sources, we would most likely have to close those schools, which could have a material adverse effect on our student population, financial condition, results of operations, and cash flows.

        As of December 31, 2005, four of our schools had student borrowers who entered repayment in the 2003-2004 award year, the most recent year for which we have calculated and reported Perkins loan default rates to the ED. The Perkins loan cohort default rates for these four schools ranged from 11.43% to 66.67%. One of our schools, Brown College, currently participates in Title IV Programs under provisional certification due to the ED's Perkins loan default rate criteria. Colorado Technical University is our only school that continues to participate in the Federal Perkins Loan program and had a Perkins loan cohort default rate of 11.43% for students who were scheduled to begin repayment in the 2003-2004 federal award year.

        All of our schools participate in the FFEL program, and none of them had an FFEL cohort default rate of 25% or greater during any of the last three federal fiscal years. The following table sets forth the FFEL cohort default rates for our schools for federal fiscal years 2003, 2002, and 2001, the most recent years for which the ED has published such rates:

 
  FFEL Cohort Default Rate
 
School, Main Campus Location
(Branch campuses are in parentheses)

 
  2003
  2002
  2001
 
American InterContinental University
Atlanta/Buckhead, GA (Atlanta/Dunwoody, GA; Weston, FL; Los Angeles, CA; Houston, TX; London, England; Online)
  9.2 % 8.3 % 5.4 %

Briarcliffe College
Bethpage, NY (Patchogue, NY)

 

7.7

%

9.1

%

5.5

%

Brooks College
Long Beach, CA (Sunnyvale, CA)

 

7.2

%

5.7

%

5.3

%

Brooks Institute of Photography
Santa Barbara, CA

 

2.9

%

4.3

%

2.8

%

Brown College
Mendota Heights, MN

 

8.0

%

6.0

%

6.1

%

California Culinary Academy
San Francisco, CA

 

8.2

%

10.4

%

6.5

%

California School of Culinary Arts
Pasadena, CA (Kithen Academy, Hollywood, CA)

 

4.2

%

2.3

%

2.9

%

Collins College
Tempe, AZ

 

8.1

%

11.1

%

9.0

%
               

29



Colorado Technical University
Colorado Springs, CO (Denver, CO; North Kansas City, MO; Sioux Falls, SD; Online)

 

4.8

%

2.9

%

3.2

%

The Cooking and Hospitality Institute of Chicago
Chicago, IL

 

9.2

%

16.7

%

18.6

%

Gibbs College

 

 

 

 

 

 

 
  Cranston, RI   7.7 % 8.6 % 9.8 %
  Livingston, NJ (Piscataway, NJ)   15.8 % 15.6 % 15.1 %
  Norwalk, CT   9.0 % 10.1 % 6.7 %
  Vienna, VA   11.2 % 9.7 % 11.1 %

Gibbs College of Boston, Inc. a private two-year college
Boston, MA

 

16.2

%

14.7

%

13.3

%

Harrington College of Design,
Chicago, IL

 

2.9

%

7.4

%

1.9

%

International Academy of Design & Technology

 

 

 

 

 

 

 
  Chicago, IL (Troy, MI; Schaumburg, IL)   21.9 % 24.2 % 18.1 %
  Pittsburgh, PA (Fairmont, WV; Nashville, TN)   16.7 % 17.2 % 12.7 %
  Tampa, FL (Orlando, FL; Henderson, NV; Seattle, WA; Orlando Culinary Academy, Orlando, FL)   7.6 % 4.5 % 8.1 %

The Katharine Gibbs Schools

 

 

 

 

 

 

 
  Melville, NY   11.3 % 9.4 % 8.8 %
  New York, NY (Norristown, PA)   19.4 % 18.3 % 7.1 %

Lehigh Valley College
Center Valley, PA

 

7.8

%

8.1

%

10.1

%

McIntosh College
Dover, NH

 

12.5

%

8.3

%

9.7

%

Missouri College
St. Louis, MO

 

3.8

%

6.0

%

7.5

%

Pennsylvania Culinary Institute
Pittsburgh, PA (Le Cordon Bleu College of Culinary Arts Miami, Miramar, FL)

 

6.0

%

11.2

%

10.4

%

Sanford-Brown College
Fenton, MO (Collinsville, IL; Hazelwood, MO; St. Charles, MO; West Allis, WI)

 

5.9

%

7.4

%

7.0

%

Sanford Brown Institute

 

 

 

 

 

 

 
  Atlanta, GA (Houston, TX; Houston/North Loop, TX; Landover, MD; Ft. Lauderdale, FL; Middleburg Heights, OH; New York, NY; Trevose,  PA)   9.9 % 7.0 % 7.0 %
  Dallas, TX (Garden City, NY)   9.5 % 7.8 % 7.8 %
  Jacksonville, FL (Iselin, NJ; Tampa, FL)   9.4 % 4.7 % 8.0 %
  White Plains, NY (Springfield, MA)   9.7 % 6.9 % 4.9 %
               

30



Scottsdale Culinary Institute
Scottsdale, AZ (Le Cordon Bleu College of Culinary Arts Las Vegas, Las Vegas, NV)

 

4.7

%

4.8

%

8.0

%

Texas Culinary Academy
Austin, TX

 

9.0

%

9.5

%

10.4

%

Western Culinary Institute
Portland, OR (Le Cordon Bleu College of Culinary Arts Atlanta, Tucker, GA; Le Cordon Bleu College of Culinary Arts Minneapolis/St. Paul, Mendota Heights, MN)

 

5.4

%

2.2

%

3.8

%

Western School of Health and Business Careers
Pittsburgh, PA (Monroeville, PA)

 

6.9

%

9.3

%

8.6

%

        Financial Responsibility Standards.    To participate in Title IV Programs, an institution must satisfy specific measures of financial responsibility as prescribed by the ED. The ED evaluates institutions for compliance with these standards each year, based on the annual audited financial statements of an institution or its parent corporation, and following a change of control of an institution. With respect to our schools, it has been the ED's practice to measure financial responsibility on the basis of the financial statements of both our individual schools and CEC on a consolidated basis.

        To be considered financially responsible, an institution must, among other things, (i) have sufficient cash reserves to make required refunds, (ii) be current on its debt payments, (iii) meet all of its financial obligations, and (iv) achieve a "composite score" of at least 1.50 based on the institution's annual financial statements. The ED calculates an institution's composite score, which may range from -1.00 to 3.00, based on a combination of financial measures designed to establish the adequacy of an institution's capital resources, its financial viability, its ability to support current operations, and its ability to generate a profit. An institution that does not meet the ED's minimum composite score of 1.00 may demonstrate its financial responsibility in one of several ways, including posting a letter of credit in favor of the ED in an amount equal to at least 50% of Title IV Program funds received by the institution during its prior fiscal year or posting a letter of credit in an amount equal to at least 10% of Title IV Program funds received by the institution during its prior fiscal year and agreeing to certain additional requirements for the receipt of Title IV Program funds, including, in certain circumstances, receipt of Title IV Program funds under an agreement other than the ED's standard advance funding arrangement.

        Currently, none of our schools are required to post a letter of credit or accept other conditions on its participation in Title IV Programs due to failure to satisfy the ED's financial responsibility standards. Our consolidated composite score as of and for the year ended December 31, 2005, was 2.69, relative to a maximum score of 3.00. If, however, we or any of our schools fail to satisfy the ED's financial responsibility standards in the future, our financial condition, results of operations, and cash flows could be materially adversely affected.

        Return and Refunds of Title IV Program Funds.    An institution participating in Title IV Programs must correctly calculate the amount of unearned Title IV Program funds that were disbursed to students who withdrew from educational programs before completing the programs, and must return those funds in a timely manner. Institutions have historically been required to return such funds within 30 days of the date the institution determines that the student has withdrawn, but, based upon changes to the HEA in 2006, the deadline to return such funds will be extended to 45 days in the future. An institution that is found to be in non-compliance with ED refund requirements for either of the last two completed fiscal years must post a letter of credit in favor of the ED in an amount equal to 25%

31



of the total Title IV Program refunds paid by the institution during its prior fiscal year. Due to non-compliance with ED refund requirements at 16 of our schools, we had posted a total of $5.4 million in letters of credit in favor of the ED as of December 31, 2005.

        Change of Ownership or Control.    When an institution undergoes a change of ownership resulting in a change of control, as that term is defined by the state in which it is located, its accrediting agency and the ED, it must secure the approval of those agencies to continue to operate and to continue to participate in Title IV Programs. If the institution is unable to re-establish state authorization and accreditation requirements and satisfy other requirements for certification by the ED, the institution may lose its authority to operate and its ability to participate in Title IV Programs. An institution whose change of ownership or control is approved by the appropriate authorities is nonetheless provisionally recertified by the ED for a period of up to three years. Transactions or events that constitute a change of control by one or more of the applicable regulatory agencies, including the ED, applicable state agencies, and accrediting bodies, include the acquisition of an institution from another entity or significant acquisition or disposition of an institution's equity. It is possible that some of these events may occur without our control. Our failure to obtain, or a delay in obtaining, a required approval of any change in control from the ED, applicable state agencies, or accrediting agencies could impair our ability or the ability of the effected schools to participate in Title IV Programs. If we were to undergo a change of control and a material number of our schools failed to obtain the required approvals from applicable regulatory agencies in a timely manner, our student population, financial condition, results of operations, and cash flows could be materially adversely affected.

        When we acquire an institution that is eligible to participate in Title IV Programs, that institution undergoes a change of ownership resulting in a change of control as defined by the ED. Each of our schools in the U.S. that we have acquired since our inception have undergone a certification review under our ownership and has been certified to participate in Title IV Programs on a provisional basis. Currently, seven of our schools participate in Title IV Programs under provisional certification due to the ED's change of ownership criteria. The potential adverse effects of a change of control under ED regulations may influence future decisions by us and our stockholders regarding the sale, purchase, transfer, issuance, or redemption of our common stock.

        Opening New Schools, Start-up Branch Campuses, and Adding Educational Programs.    The HEA generally requires that proprietary institutions be fully operational for two years before applying to participate in Title IV Programs. However, an institution that is certified to participate in Title IV Programs may establish a start-up branch campus and participate in Title IV Programs at the start-up branch campus without reference to the two-year requirement if the start-up branch campus has received all of the necessary state and accrediting agency approvals, has been reported to the ED, and meets certain other criteria as defined by the ED. Nevertheless, under certain circumstances, such a start-up branch campus may also be required to obtain approval from the ED to be able to participate in Title IV Programs. Similarly, an institution that is eligible to participate in Title IV Programs may generally add a new educational program and disburse Title IV Program funds to students enrolled in that new program without ED approval if the new program leads to an associate level or more advanced degree and the institution already offers programs at that level, or if the new program prepares students for gainful employment in the same occupation or a related occupation as an educational program that has previously been designated as an eligible program at the institution and meets minimum length requirements. Otherwise, the institution must obtain the ED's approval before it may disburse Title IV Program funds to students enrolled in the new program.

        In addition to ED regulation, certain of the state and accrediting agencies with jurisdiction over our schools have requirements that may affect our ability to open a new school, open a start-up branch campus of one of our existing schools, or begin offering a new educational program at one of our schools. If we establish a new school, add a new branch start-up campus, or expand program offerings at any of our schools without obtaining the required approvals, we would likely be liable for repayment

32



of Title IV Program funds provided to students at that school or branch campus or enrolled in that educational program, and we could also be subject to sanctions. Also, if we are unable to obtain the approvals from the ED, applicable state regulatory agencies, and accrediting agencies for any new schools, branch campuses, or program offerings where such approvals are required, or to obtain such approvals in a timely manner, our ability to grow our business would be impaired and our financial condition, results of operations, and cash flows could be materially adversely affected.

        As discussed above, the ED has advised us that it will not approve any new applications by us for pre-acquisition review of change of ownership, which has limited our ability to open new schools or start-up branch campuses.

        "90-10 Rule." Under a provision of the HEA commonly referred to as the "90-10 Rule," a proprietary institution would no longer be eligible to participate in Title IV Programs if, on a cash accounting basis, it derived more than 90% of its revenue, as defined pursuant to applicable ED regulations, for any fiscal year from Title IV Programs. An institution that violates this 90-10 Rule becomes ineligible to participate in Title IV Programs as of the first day of the fiscal year following the fiscal year for which it is in violation of the rule and is unable to apply to regain its eligibility until the next fiscal year. If an institution violated the 90-10 Rule and became ineligible to participate in Title IV Programs but continued to disburse Title IV Program funds, the ED would require the institution to repay all Title IV Program funds received by the institution after the effective date of the loss of eligibility.

        Since the 90-10 Rule requirement took effect in 1995, none of our schools has derived more than 88% of its cash-basis revenue from Title IV Programs for any fiscal year. During the years ended December 31, 2005, 2004, and 2003, our schools that participate in Title IV Programs received, in the aggregate, approximately 62%, 58%, and 58%, respectively, of total cash-basis revenue from Title IV Programs. We monitor compliance with this requirement to minimize the risk that any of our schools would derive more than the maximum allowable percentage of its cash-basis revenue from Title IV Programs for any fiscal year. If one of our schools appeared likely to approach the maximum allowable percentage threshold, we would consider making changes in student funding and financing to ensure compliance with the rule. If any of our schools were to lose eligibility to participate in Title IV Programs, and we were not able to arrange for adequate alternative financing sources for the students attending such school, we would most likely have to close the school, which could have a material adverse effect on our student population, financial condition, results of operations, and cash flows.

        Administrative Capability.    ED regulations specify extensive criteria that an institution must satisfy to establish that it has the requisite administrative capability to participate in Title IV Programs. These criteria relate to, among other things, institutional staffing, operational standards, timely submission of accurate reports to the ED, and various other procedural matters. If an institution fails to satisfy any of the ED's criteria for administrative capability, the ED may require the repayment of Title IV Program funds disbursed by the institution, require the institution to receive Title IV Program funds under an agreement other than the ED's standard advance funding agreement while being provisionally certified, or commence a proceeding to impose a fine or limit, suspend, or terminate the participation of the institution in Title IV Programs.

        Restrictions on Payment of Commissions, Bonuses, and Other Incentive Payments.    An institution 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 ED's laws and regulations regarding this rule do not establish clear criteria for compliance in all circumstances. If the ED determined that an institution's compensation practices violated these standards, the ED could subject the institution to monetary fines, penalties, or other sanctions. We believe that our current compensation plans are in compliance with the provisions

33



of the HEA, although such compensation plans have not been specifically reviewed or approved by the ED. Any significant fine or penalty or other sanction levied against one or more of our schools as a result of violations of these or other ED regulations could have a material adverse effect on our financial condition, results of operations, and cash flows.

        Restrictions on Distance Education Programs.    Under current law, an institution participating in Title IV Programs must offer less than one half of its courses over telecommunication networks, including the Internet, or by correspondence, and an institution that offers one half or more of its courses over telecommunication networks or by correspondence ceases to be eligible to participate in Title IV Programs (the "50% Rule"). We believe that our schools that offer online programs are in compliance with this provision. The failure of any of our schools that offer online programs to remain in compliance with this provision could have a material adverse effect on our financial condition, results of operations, and cash flows. The Deficit Reduction Act of 2005 has eliminated the 50% Rule, effective July 1, 2006.

        Eligibility and Certification Procedures.    Under the provisions of the HEA, an institution must apply to the ED for continued certification to participate in Title IV Programs at least every six years or when it undergoes a change of control, as discussed above. The ED may place an institution on provisional certification status if it finds that the institution does not fully satisfy all required eligibility and certification standards. Provisional certification does not generally limit an institution's access to Title IV Program funds. The ED may withdraw an institution's provisional certification without advance notice if the ED determines that the institution is not fulfilling all material requirements. In addition, an institution must obtain ED approval for certain substantial changes in its operations, including changes in an institution's accrediting agency or state authorizing agency or changes to an institution's structure or certain basic educational features.

        Currently, 11 of our schools remain on provisional certification with the ED. Seven of our schools are on provisional certification because the initial period of their provisional certification following a change in control has not expired, two schools are on provisional certification due to late refunds of Title IV Program funds, one school is on provisional certification due to its Federal Perkins Loan default rate, and one school is on provisional certification due to an ongoing ED program review.

Compliance with Federal Regulatory Standards and Effect of Federal Regulatory Violations

        We and our schools are subject to and have pending audits, compliance reviews, inquiries, investigations, claims of non-compliance, and lawsuits by the ED and other state regulatory agencies, accrediting agencies, present and former students and employees, shareholders, and other third parties that may allege violations of statutes, regulations, accreditation standards, or other regulatory requirements applicable to us or our schools. The HEA also requires that an institution's administration of Title IV Program funds be audited annually by an independent accounting firm and that the resulting audit report be submitted to the ED for review.

        If the results of any such audits, reviews, investigations, claims, or actions are unfavorable to us, we may be required to pay monetary damages or be subject to fines, operational limitations, loss of federal funding, injunctions, additional oversight and reporting, or other civil or criminal penalties. In addition, if the ED or another regulatory agency determined that one of our schools improperly disbursed Title IV Program funds or violated a provision of the HEA or the ED's regulations, that school could be required to repay such funds and could be assessed an administrative fine. Any penalties or restrictions imposed on us or our schools could have a material adverse effect on our business, financial condition, results of operations, and cash flows. Even if we satisfactorily resolve the issues raised by any such claims or actions, we may have to expend significant financial resources and divert management attention from our ongoing business operations to address and defend those claims or actions, which could have a material adverse effect on our business, financial condition, results of operations, and cash

34



flows. Adverse publicity regarding such claims and actions could also negatively affect our business. We have several such matters pending against us or one or more of our schools. See Note 14 "Commitments and Contingencies—Federal, State, and Accrediting Body Regulatory Actions" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of certain of these matters.

        Corporate Compliance Structure.    We have developed a corporate compliance department to monitor our schools' compliance with the extensive regulations described above. Our corporate compliance department also provides assistance to our schools in preparing for and responding to accreditation visits, program reviews, financial aid audits, state licensure requirements, and student complaints and reviewing advertising and school catalogs.

        Our corporate compliance department is directed by our Chief Compliance Officer, who reports independently to both the Audit Committee of the Board of Directors and the Executive Vice President of Administration, and includes five vice presidents of compliance, each of whom reports independently to the Chief Compliance Officer. The Chief Compliance Officer and the vice presidents of compliance are responsible for verifying that:

    our schools and their employees are in compliance with the rules and regulations of federal and state regulatory agencies and accrediting bodies;

    our policies and procedures are being followed; and

    behavior at our schools conforms to our Code of Business Conduct and Code of Ethics.

        We have realigned our school compliance structure such that each of our North American campuses has a full-time director of compliance ("DOC") who reports independently to a specified corporate vice president of compliance. Previously, our DOCs reported directly to school presidents. This change was instituted to ensure the independence of the DOCs in addressing compliance-related issues that affect our schools. DOCs remain active and collaborative members of their campuses' senior management teams.

        Certain of our DOCs serve on a DOC Advisory Council that works closely with our Chief Compliance Officer and our vice presidents of compliance to identify best practices, share knowledge regarding how new compliance policies and procedures might work at the campus level, serve as mentors for newly-hired DOCs, and function as senior instructors for DOC training.

        In addition, during 2005, we created a Corporate Compliance Policy Board comprised of vice president-level representatives from the primary corporate departments. This board has been commissioned to disclose and discuss broad policy initiatives so that they may be assessed for compliance with federal, state, and accrediting body requirements.

        We have also adopted a Code of Ethics that applies to our executive officers and senior financial officers and a Code of Business Conduct and Ethics that applies to all of our directors and employees. These codes provide guidance with respect to our expectations that all of our employees will conduct business in a way that will merit the continued trust and confidence of the public. Both of these documents are available on our website at www.careered.com under the caption "Investor Relations."

        During 2005, we introduced a mandatory ethics training regimen for directors and all full-time and part-time employees at our schools and corporate offices. Our ethics training program includes a live presentation from an industry expert to our Board of Directors and our corporate and school executive managers, and a mandatory interactive online training program for all other employees. As of January 31, 2006, approximately 96% of all employees had completed the mandatory interactive online training program.

35


International Regulations

        Our schools that operate in France and the foreign campuses of our U.S schools that operate in Canada and the United Kingdom are subject to local government regulations. Each of our international locations currently holds all necessary domestic authority to operate within its respective jurisdiction, and campus administrators work closely with local regulators to ensure compliance with domestic regulations. Additionally, our AIU campus in the United Kingdom and the American University in Dubai ("AU Dubai") in the United Arab Emirates are accredited by a U.S. regional accrediting association, SACS, as branches of AIU, whose main campus is located in Atlanta, Georgia.

        France.    Our INSEEC Group ("INSEEC") consists of nine schools, all of which operate exclusively in France and are governed by the French Ministry of Education. Two of INSEEC's schools offer health education programs and, thus, are co-governed by the French Ministry of Health and by the National Professional Committee for Medical Visits for the schools' pharmaceutical test preparation and continuing education classes.

        The French Ministry of Education has three levels of approval for educational institutions: diploma endorsement (Level III), state recognition (Level II), and diploma stamp (Level I, the highest level of French approval). In 1999, an additional level entitled "Master," which represents the highest level of European approval, was added.

        The Level III approval, which is co-governed by the French Ministry of Employment and the French Ministry of Education, is currently undergoing reorganization by the French Ministry, and the institutions affected by the reorganization are currently in the process of registering with the New Certification National Register. With respect to Level II approval, Level I approval, and the European approvals, conditions that must be satisfied to obtain approvals are generally becoming more strict, requiring institutions to, among other things, provide additional financial support for research, and hire additional full-time, PhD level faculty.

        Currently, two of our INSEEC schools have been granted the highest level of European approval, Master grade, four schools have been granted Level I approval, four schools have been granted Level II approval, and six schools have been granted Level III approval. These approvals are subject to regular renewal, the schedule for which depends on geographic zones. All Level I renewals from the French Ministry of Education have been obtained as of December 31, 2005.

        Canada.    Students at our Canadian campus of IADT, which is located in Toronto, Ontario, may receive loans under the Canada Student Loans Program, the Ontario Student Assistance Program, and/or provincial funding from their province of residence, if not Ontario. Canadian institutions must meet eligibility standards to administer these programs and must comply with extensive statutes, rules, regulations, and requirements. We believe our Canadian campus of IADT currently holds all necessary registrations, approvals, and permits and meets all eligibility requirements to administer these governmental financial aid programs.

        United Kingdom.    American InterContinental University London ("AIU—London") has been authorized by the applicable U.S. and United Kingdom agencies to grant academic credentials. AIU—London is authorized to grant academic degrees by the Nonpublic Postsecondary Education Commission of the State of Georgia. U.S. students that attend AIU—London are eligible to participate in Title IV Programs through AIU—London's status as branch campus of AIU—Buckhead. On December 12, 2005, AIU—London entered into an accreditation agreement with London South Bank University. AIU—London's accreditation agreement with The Open University will end on June 15, 2006. AIU—London is a "Listed Body" pursuant to The Education (Listed Bodies) (England) Order 2002.

36



        United Arab Emirates.    AU Dubai, a branch campus of AIU, as defined by the ED, is authorized to grant academic credentials by both the Nonpublic Postsecondary Education Commission of the State of Georgia and the Education Licensure Commission of the District of Columbia. AU Dubai does not participate in Title IV Programs. AU Dubai has been granted domestic programmatic accreditation by the United Arab Emirates Ministry of Higher Education and has authority to operate through a grant from the Emir (the head of state) of Dubai. AU Dubai received a new five-year, renewable license to operate the campus from the United Arab Emirates Ministry of Higher Education in December 2004. This license is also known as a "trade license" in the United Arab Emirates.

ALTERNATIVE STUDENT FINANCIAL AID SOURCES

        As the financial aid available to our students under Title IV Programs and state programs is generally significantly less than the tuition costs at our U.S. schools and our students' financial needs, many of our students secure private loans to finance a portion of their tuition costs. These private loans are made directly to our students by financial institutions and are not guaranteed under the FFEL program.

        The fees and interest rates on these private loans are generally greater than the loans made under the FFEL program due to the lack of a government guarantee on these private loans. The fees and interest rates on these private loans will also vary depending on the credit history of the student or co-borrower, with fees and interest rates being lower for students and co-borrowers with better credit histories. The market for private student loans has shown significant growth over the past three years as the demand for private loans continues to increase due to increases in the cost of education and static funding levels under the FFEL program. The number of lenders offering private loans has also increased with this demand, and our students have several choices of private loan programs available to them.

        The majority of our students, individually or with a co-borrower, are able to obtain non-recourse private loans from financial institutions. A financial institution providing a non-recourse loan assumes 100% of the credit risk on the loan. To receive a non-recourse loan, the student, or the student and a co-borrower, must meet the credit criteria established by the financial institution for these loans. Each financial institution has established its respective credit criteria and loan limits. Students and co-borrowers can generally borrow an amount equal to the student's cost of attendance less all other financial aid received. The majority of non-recourse private loans received by our students at our U.S. schools during the years ended December 31, 2005, 2004, and 2003, were provided by Sallie Mae.

        Effective March 1, 2006, Sallie Mae requires our students that are not able to obtain a qualified co-borrower to meet a higher minimum credit score to receive a non-recourse loan. No changes are being made to the required minimum credit score for students who are able to obtain a qualified co-borrower for a non-recourse loan. This change in minimum credit score may result in students who would have been eligible to obtain a non-recourse loan without a qualified co-borrower prior to March 1, 2006, to no longer be eligible to do so, and instead, such students may only be eligible for a Sallie Mae recourse loan, as discussed below.

        We have developed several recourse loan programs with financial institutions for students with low credit scores who do not qualify for non-recourse loans. These recourse loan programs require that we allow the financial institution providing the recourse loans to retain an agreed-upon portion of the loans funded as a reserve against future defaults on these loans. We are required to purchase any defaulted recourse loans up to the amount on deposit in the reserve account.

        The loan amounts available to our students under these recourse loan programs are generally less than the amounts available under non-recourse loan programs. We believe that providing recourse loans to our students utilizing these lower loan amounts allows them to receive the financing needed to attend our schools while controlling the amount of recourse fees incurred by our schools in connection

37



with these loans. Our cash receipts from these recourse loan programs over the last three years have not exceeded 3% of total cash tuition payments received in any one year, and we do not expect the relative percentage of cash receipts from recourse loan programs to increase significantly in the future. For a detailed discussion of our recourse loan agreements, see Note 11 "Recourse Loan Agreements" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K.

        If there were significant changes in the credit criteria established by the financial institutions providing private loans to our students, and we were not able to arrange for adequate alternative financing sources for the students attending our schools, the ability of students to finance their education would be impaired, which could have a material adverse effect on our student population, financial condition, results of operations, and cash flows.

OTHER INFORMATION

        Our website address is www.careered.com. We make available within the "Investors Relations" portion of our website under the caption "Financial Information," free of charge, our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, including any amendments to those reports, as soon as reasonably practicable after we electronically file or furnish such materials to the SEC. Materials we file or furnish to the SEC may also be read and copied at the SEC's Public Reference Room at 450 Fifth Street, NW, Washington, DC 20549. Information on the operation of the Public Reference Room may be obtained by calling the SEC at 1-800-SEC-0330. Also, the SEC maintains an Internet site at www.sec.gov that contains reports, proxy and information statements, and other information that we file electronically with SEC.


ITEM 1A.    RISK FACTORS

Risks Related to the Highly-Regulated Industry in Which We Operate

        We derive a significant portion of our revenue and cash flows from Title IV Programs, as a significant portion of students who attend our schools rely on Title IV Program funds to finance their education. To participate in Title IV Programs, an institution must receive and maintain authorization by the appropriate state education agencies, be accredited by an accrediting commission recognized by the ED, and be certified as an eligible institution by the ED. Most ED requirements are applied on an institutional basis, with an institution defined by the ED as a main campus and any of its branch campuses or locations. As a result, our U.S. schools are subject to extensive regulation by the ED, various state agencies, and various accrediting commissions. These regulatory requirements cover virtually all phases of our schools' 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 opening of new institutions, addition of new educational programs, and changes in our corporate structure and ownership. All of our domestic schools and certain foreign campuses of our domestic schools participate in Title IV Programs. The following are some of the most significant regulatory requirements and risks related to governmental and accrediting body oversight of our business:

    Any actions by the U.S. Congress that significantly reduce funding for Title IV Programs or the ability of our students to participate in these programs, or establish different or more stringent requirements for our schools to participate in Title IV Programs, including the pending reauthorization of the HEA, could have a material adverse effect on our student population, results of operations, and cash flows.

38


    Our schools may lose their eligibility to participate in Title IV Programs if their student loan default rates are greater than the standards set by the ED.

    We may be required to post a letter of credit or accept other limitations to continue our schools' participation in Title IV Programs if we or our schools do not meet the ED's financial responsibility standards or if our schools do not correctly calculate and timely return Title IV Program funds for students who withdraw before completing their program of study.

    The ability of our schools to participate in Title IV Programs may be impaired if regulators do not timely approve a change of control of us or any of our schools.

    We cannot open new schools or branch campuses of our existing schools and our schools cannot offer new programs if these new locations and program offerings are not timely approved by the ED and state and accrediting regulators, as applicable. Also, our schools may have to repay Title IV Program funds disbursed to students enrolled at a new location or in a new program offering at an existing location if we do not obtain prior approval from the ED and state and accrediting regulators, as applicable.

    Our schools may lose eligibility to participate in Title IV Programs if, on a cash basis, the percentage of a school's revenue derived from Title IV Programs in any fiscal year is greater than 90%.

    We may be required to accept limitations to continue our schools' participation in Title IV Programs if we fail to satisfy the ED's administrative capability standards.

    Our schools are subject to sanctions if payments of impermissible commissions, bonuses, or other incentive payments are made to individuals involved in certain recruiting, admissions, or financial aid activities.

        The agencies that regulate our schools periodically revise their requirements and modify their interpretations of existing requirements. 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.

        Government and regulatory agencies and third parties may bring claims or actions against us based on alleged violations of the extensive regulatory requirements discussed above. If one of our schools were to violate any of these regulatory requirements, these agencies could (a) impose monetary fines or penalties, (b) require repayment of funds received under Title IV Programs or state financial aid programs, (c) place restrictions on or terminate our schools' eligibility to participate in Title IV Programs or state financial aid programs, (d) place limitations or terminate our schools' operations or ability to grant degrees and certificates, (e) restrict or revoke our schools' accreditations, or (f) subject us or our schools 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.

        In addition, if any of our schools were to lose, or fail to obtain, state authorization, the school would be unable to offer postsecondary education and we would be forced to close the school. If any of our schools were to lose its accreditation, the school would lose eligibility to participate in Title IV Programs. If any of our schools were to lose eligibility to participate in Title IV Programs, and we could not arrange for adequate alternative financing sources for students attending that school, we could be forced to close the school. The closing of any of our schools could have a material adverse effect on our financial condition, results of operations, and cash flows. Even if we maintain compliance with applicable governmental and accrediting body regulations, increased regulatory scrutiny or adverse publicity arising from allegations of non-compliance may increase our costs of regulatory compliance and adversely affect our financial results, growth rates, and prospects. See "Student Financial Aid and

39



the Regulation of the Postsecondary Education Industry" in Part I, Item 1 of this Annual Report on Form 10-K for a detailed discussion of the regulatory requirements that apply to us and our schools.

        As previously disclosed, the ED notified us in June 2005 that it is reviewing our previously announced restated consolidated financial statements and our annual compliance audit opinions for the years 2000 through 2003. At the same time, the ED also advised us that it is evaluating pending program reviews that have taken place at certain of our schools, which are all included in our CSU segment. The ED has indicated that until these matters are addressed to its satisfaction, it will not approve any new applications by us for pre-acquisition review or change of ownership. The ED has further advised us that during this period, it will not approve applications for any additional branch campuses, which the ED refers to generally in its regulations as "additional locations."

        In February 2006, we received a letter from the ED notifying us that it is reviewing our 2004 compliance audit opinions and that the general restrictions imposed pursuant to its letter to us in June 2005 will remain in place as it continues its review. These restrictions by the ED, or a negative outcome of the ED review, could have a material adverse effect on our business, future financial condition, results of operations, and cash flows. Any adverse publicity related to this action may harm our reputation and impair our ability to attract and retain students at our schools.

        As previously disclosed, on December 6, 2005, we were notified by the Southern Association of Colleges and Schools, or SACS, that it had placed AIU, which includes seven of our on-ground campuses and our AIU Online campus, on "Probation" status for one year. Although AIU is committed to responding fully to each area of concern raised by SACS, we cannot predict the outcome of this review. An unfavorable outcome of this matter could have a material adverse effect on our business, financial condition, results of operations, and growth prospects. Any adverse publicity related to this action may harm our reputation and impair our ability to attract and retain students at our schools.

        We and a number of our peer companies in the for-profit, postsecondary education industry have been subject to increased regulatory scrutiny in recent years. In particular, allegations of wrongdoing have resulted in reviews or investigations by the U.S. Department of Justice ("Justice Department"), the SEC, the ED, state agencies, and accrediting agencies of us and our schools. These allegations, reviews and investigations of us and certain of our peer companies, and any accompanying adverse publicity relating to these matters may have a material adverse affect on our business, financial condition, results of operations, and the market price of our common stock.

Risks Related to Our Business

        CEC, certain of our subsidiaries and schools, and certain of our current and former directors and executive officers have been named as defendants in numerous lawsuits alleging violations of the federal securities laws. In addition, certain government agencies are conducting investigations regarding

40


us, including the SEC and the Justice Department. We are also subject to various other lawsuits, investigations, and claims, covering a wide range of matters, including, but not limited to, claims involving students or graduates and routine employment matters. Please see Note 14 "Commitments and Contingencies" of the notes to our consolidated financial statements in Part IV, Item 15 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 and respond to requests for information from the SEC and the Justice Department, we cannot predict the duration or outcome of the SEC or Justice Department investigations, and those 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 SEC and Justice Department 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 also be required to pay substantial damages or settlement costs in excess of our insurance coverage in connection with these matters, which could have a material adverse effect on our financial condition, results of operation, and the market price of our common stock.

        Our schools' online campuses intend to continue increasing student enrollments, and more resources will be required to support this anticipated growth, including additional faculty, admissions, and academic and financial aid advisors. This growth may place a significant strain on the operational resources of our schools' online campuses.

        Our schools' online campuses' success depends, in part, on their ability to expand the content of their programs, develop new programs in a cost-effective manner, maintain good standings with their regulators and accreditors, and meet their students' needs in a timely manner. The expansion of our schools' online campuses' existing programs and the development of new programs may not be accepted by their students or the online education market, and new programs could be delayed due to current and future unforeseen regulatory restrictions.

        The performance and reliability of the program infrastructure at our schools' online campuses is critical to the reputation of these campuses and the campuses ability to attract and retain students. Any computer system error or failure, or a sudden and significant increase in traffic on our computer networks that host our schools' online campuses, may result in the unavailability of our schools' online campuses' computer networks. Individual, sustained, or repeated occurrences could significantly damage the reputation of our schools' online campuses and result in a loss of potential or existing students. Additionally, our schools' online campuses' computer systems and operations are vulnerable to interruption or malfunction due to events beyond our control, including natural disasters and network and telecommunications failures. Any interruption to our schools' online campuses' computer systems or operations could have a material adverse effect on the ability of our schools' online campuses to attract and retain students.

41



        Our computer networks may also be vulnerable to unauthorized access, computer hackers, computer viruses, and other security threats. A user who circumvents security measures could misappropriate proprietary information or cause interruptions or malfunctions in our operations. Due to the sensitive nature of the information contained on our networks, such as students' grades, our networks may be targeted by hackers. As a result, we may be required to expend significant resources to protect against the threat of these security breaches or to alleviate problems caused by these breaches.

    Budget constraints in states that provide state financial aid to our students could reduce the amount of such financial aid that is available to our students, which could adversely effect our student population. Alternatively, improved state financing may result in increased support for lower-priced public institutions, which may increase competition for students.

        A significant number of states in which our schools operate have faced budget constraints that have caused or may cause them to reduce state appropriations in a number of areas. These states may decide to reduce the amount of state financial aid that they provide to students, but we cannot predict how significant any future reductions in financial aid will be or how long any such reductions will persist. If the level of state funding for our students decreases and our students are not able to secure alternative sources of funding for their education, our student population could be adversely affected, which could have a material adverse effect on our results of operations, financial position, and cash flows. Alternatively, a number of states are recovering from budgetary constraints that caused them to reduce funding for public institutions, notably community colleges. Increased state support for such public institutions resulting in increased competition for students could have a material adverse effect on our results of operations, financial position, and cash flows.

        Interest rates have reached historical lows in recent years, creating a favorable borrowing environment for students attending our schools. Much of the financing our students receive is tied to floating interest rates. Interest rates have increased in recent months, resulting in a corresponding increase in the cost to our existing and prospective students of financing their education. We cannot predict whether interest rates will increase or decrease in the future, but additional rate increases could further increase the cost of borrowing for our students, which could result in a reduction in the number of students attending our schools and could adversely affect our results of operations, financial condition, and cash flows. Higher interest rates could also contribute to higher default rates with respect to our students' repayment of Title IV Program and private loans. Higher default rates may, in turn, adversely impact our eligibility to participate in Title IV Programs and/or the willingness of private lenders to make private loan programs available to students who attend our schools, which could result in a reduction in the number of students attending our schools.

        As part of our business strategy, we expect to rely on acquisitions as a key component of our overall long-term growth. From time to time, we engage in evaluations of, and discussions with, possible domestic and international acquisition candidates. We may not continue to be able to identify suitable acquisition opportunities or to acquire any such schools on favorable terms. In addition, we may incur debt to finance future acquisitions and/or issue securities in connection with future acquisitions, which may dilute the holdings of our stockholders. To the extent that we continue to pursue acquisitions of postsecondary educational institutions, our ability to complete such transactions may be adversely affected by the ongoing government investigations and regulatory reviews described in Note 14 "Commitments and Contingencies—Federal Regulatory Actions" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K. Also, there may be difficulties and complexities associated with our expansion into international markets, and our

42


business strategies may not succeed beyond our current markets. If we do not effectively address these risks, our growth and ability to compete may be impaired.

        As part of our business strategy, we anticipate opening new schools and new branch campuses of our existing schools throughout the U.S. Establishing new schools and branch campuses poses unique challenges and requires us to make investments in management and capital expenditures, incur marketing and advertising expenses, and devote resources that are different, and in some cases greater, than those required with respect to the operation of our existing schools. We may not be able to identify or successfully pursue suitable expansion opportunities to help maintain or accelerate our current growth rate. We may not be able to successfully integrate or profitably operate a new school or branch campus. Any failure by us to effectively identify, establish, and manage the operations of a new school or branch campus could slow our growth and make any newly-established school or branch campus more costly to operate than we had planned, which could have a material adverse effect on our results of operations.

        To open a new school or branch campus, we would be required to obtain the appropriate approvals from applicable state and accrediting regulatory agencies, which may be conditioned, delayed, or denied in a manner that could significantly affect our growth plans. Approval by these regulatory agencies may be negatively impacted due to pending investigations, regulatory reviews, and any adverse publicity relating to such matters. In addition, to be eligible to participate in Title IV Programs, the ED and applicable state and accrediting bodies must certify a new school or branch campus. Our ability to open new schools or new branch campuses of existing school may be adversely affected by ongoing investigations and regulatory reviews described in Note 14 "Commitments and Contingencies—Federal Regulatory Actions" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K.

        Increasingly, prospective employers of students who graduate from our schools demand that their new employees possess appropriate technological skills and also appropriate "soft" skills, such as communication, critical thinking, and teamwork skills. These skills can evolve rapidly in a changing economic and technological environment. Accordingly, it is important for our schools' educational programs to evolve in response to those economic and technological changes. The expansion of existing programs and the development of new programs may not be accepted by current or prospective students or the employers of our graduates. Even if our schools are able to develop acceptable new programs, our schools may not be able to begin offering those new programs as quickly as required by prospective employers or as quickly as our competitors offer similar programs. If we are unable to adequately respond to changes in market requirements due to regulatory or financial constraints, unusually rapid technological changes, or other factors, our ability to attract and retain students could be impaired, the rates at which our graduates obtain jobs involving their fields of study could suffer, and our results of operations and cash flows could be adversely affected.

        The awareness of our schools and the programs that they offer among high school graduates and working adults is important to the success of our schools. If our schools are unable to successfully market and advertise their educational programs, our schools' ability to attract and enroll prospective students in such programs could be adversely affected, and, consequently, our ability to increase revenue or maintain profitability could be impaired. Some of the factors that could prevent us from

43


successfully marketing and advertising our schools and the programs that they offer include, but are not limited to, student and/or employer dissatisfaction with educational programs and services, diminished access to high school students, and our failure to maintain or expand our brand names or other factors related to our marketing or advertising practices.

        The postsecondary education industry is highly fragmented and competitive. Our schools compete with traditional public and private two-year and four-year colleges and universities, other proprietary schools, including those that offer online education programs, and alternatives to higher education, such as immediate employment and military service. Some public and private institutions are able to charge lower tuition for courses of study similar to those offered by our schools due, in part, to government subsidies, government and foundation grants, tax-deductible contributions, and other financial resources not available to proprietary institutions. In addition, some of our competitors in both the public and private sectors may have substantially greater financial and other resources than we do. An increase in competition could affect the success of our marketing efforts and enable our competitors to recruit prospective students more effectively. If we were to lose market share due to increased competition, we may be required to reduce our tuition charges and increase spending for marketing efforts, which could adversely impact our results of operations, financial condition, and cash flows.

        Our success to date has depended, and will continue to depend, largely on the skills, efforts, and motivation of our executive officers and other key personnel. Our success also depends, in large part, upon our ability to attract and retain highly qualified corporate management and our schools' ability to attract and retain highly qualified faculty members and administrators. We face competition in the attraction and retention of personnel who possess the skill set that we seek. In addition, key personnel may leave us and subsequently compete against us, as none of our employees is subject to an employment or non-competition agreement other than John M. Larson, our Chairman and Chief Executive Officer. Furthermore, we do not currently carry "key man" life insurance on any of our employees. The loss of the services of any of our key personnel, or our failure to attract and retain other qualified and experienced personnel on acceptable terms, could have a material adverse effect on our business, results of operations, or financial condition.

        In addition, to support our growth, we must hire, retain, develop, and train qualified admissions representatives who are dedicated to student recruitment. If we are unable to hire, develop, and train qualified admissions representatives, the effectiveness of our student recruiting efforts could be adversely affected.

        Our credit agreements limit our ability to take various actions, including paying dividends and disposing of assets. Accordingly, we may be restricted from taking actions which management believes would be desirable and in the best interests of us and our stockholders. Our credit agreements also require us to satisfy specified financial and non-financial covenants. A breach of any covenants contained in our credit agreements could result in an event of default under the agreements and allow the lenders to pursue various remedies, including accelerating any indebtedness outstanding thereunder, any of which could have a material adverse effect on our business or financial condition.

44


Risk Related to Our Common Stock

        The trading price of our common stock may fluctuate substantially as a result of a number of factors, some of which are not in our control. These factors include:

    Our ability to meet or exceed our own forecasts or expectations of analysts or investors;

    Quarterly variations in our operating results;

    Changes in the legal or regulatory environment in which we operate;

    General conditions in the for-profit, postsecondary education industry, including changes in ED and state laws and regulations and accreditation standards;

    The initiation, pendency, or outcome of litigation, regulatory reviews, and investigations, including the pending Justice Department and SEC investigations, the SACS review, and any adverse publicity related thereto;

    Changes in our own forecasts or earnings estimates by analysts;

    Price and volume fluctuations in the overall stock market, which have particularly affected the market prices of many companies in the for-profit, postsecondary education industry in recent periods;

    The loss of key personnel; and

    General economic conditions.

        These factors may adversely affect the trading price of our common stock, regardless of our actual operating performance, and could prevent an investor from selling shares of our common stock at or above the price at which such shares were purchased. In addition, the stock markets, from time to time, experience extreme price and volume fluctuations that may be unrelated or disproportionate to the operating performance of companies. These broad fluctuations may adversely affect the market price of our common stock, regardless of our operating performance.


ITEM 1B.    UNRESOLVED STAFF COMMENTS

        None.

45



ITEM 2.    PROPERTIES

        Our corporate headquarters are located in Hoffman Estates, Illinois, which is outside of Chicago, and our schools' 84 on-ground campuses are located throughout the United States and in France, Canada, and the United Kingdom. Each of our campuses contains admissions and administrative offices and teaching facilities, including classrooms, laboratories, and, in the case of campuses with culinary arts programs, kitchens. Also, certain of our campuses include dormitory and cafeteria facilities, and certain of our culinary schools utilize leased space to operate restaurants in conjunction with their culinary arts programs.

        As of December 31, 2005, we had entered into lease agreements to rent approximately 6.7 million square feet of real property, of which approximately 5.9 million square feet is leased by our CSU segment schools, approximately 0.7 million square feet is leased by our OEG segment campuses, and approximately 0.1 million square feet is leased for our corporate locations. The leases have remaining terms ranging from less than one year to 23 years.

        As of December 31, 2005, we owned real property at the following CSU segment campuses covering approximately 0.2 million square feet:

    American InterContinental University, Houston, TX

    Brooks Institute of Photography, Santa Barbara, CA

    The Cooking and Hospitality Institute of Chicago, Chicago, IL

    Pennsylvania Culinary Institute, Pittsburgh, PA

        We actively monitor our real estate needs in light of our current utilization and projected student enrollment growth. We believe that our schools can acquire any necessary additional facility capacity on reasonably acceptable terms within a relatively short timeframe. We devote capital resources to facility improvements and expansions as we deem necessary to promote growth and most effectively serve our students.


ITEM 3.    LEGAL PROCEEDINGS

        Note 14 "Commitments and Contingencies—'Litigation' and 'Federal, State, and Accrediting Body Regulatory Actions' " of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K is incorporated herein by reference.


ITEM 4.    SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

        No matters were submitted to a vote of our security holders during the fourth quarter of 2005.

46



PART II

ITEM 5.    MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

        Our common stock has been quoted on the NASDAQ National Market (the "National Market") under the symbol "CECO" since January 29, 1998.

        The following table sets forth the range of high and low sales prices per share for our common stock as reported on the National Market for the periods indicated. The split-adjusted initial public offering price of our common stock on January 29, 1998, was $2.00 per share.

 
  High
  Low
2004:            
  First Quarter   $ 58.69   $ 39.75
  Second Quarter     70.91     40.85
  Third Quarter     46.50     26.89
  Fourth Quarter     43.09     26.22

 


 

High

 

Low

2005:            
  First Quarter   $ 42.05   $ 32.74
  Second Quarter     39.23     29.02
  Third Quarter     41.11     35.56
  Fourth Quarter     38.84     32.47

        The closing price of our common stock as reported on the National Market on March 2, 2006, was $33.30 per share. As of March 2, 2006, there were 173 holders of record of our common stock.

        We have never paid cash dividends on our common stock and have no current plan to do so in the foreseeable future. The declaration and payment of dividends on our common stock are subject to the discretion of our Board of Directors. The decision of our Board of Directors to pay future dividends will depend on general business conditions, the effect of a dividend payment on our financial condition, and other factors the Board of Directors may consider relevant. The current policy of our Board of Directors is to reinvest earnings in our operations to promote future growth and, from time to time, to execute repurchases of shares of our common stock under the stock repurchase program discussed below. The repurchase of shares of our common stock reduces the amount of cash available to pay cash dividends to our common stockholders. Our ability to pay cash dividends on our common stock is also limited under the terms of our existing credit agreements.

        In July 2005, our Board of Directors authorized us to use up to $300.0 million for the repurchase of shares of our outstanding common stock. Pursuant to this stock repurchase program, we may repurchase shares of our outstanding common stock on the open market or in private transactions from time to time, depending on certain factors including market conditions and corporate and regulatory requirements. The stock repurchase program does not have an expiration date and may be suspended or discontinued at any time. During the year ended December 31, 2005, we repurchased approximately 5.3 million shares of our common stock for approximately $200.2 million at an average price of approximately $37.97 per share.

        In February 2006, our Board of Directors authorized us to use an additional $200.2 million for the repurchase of shares of our outstanding common stock under the stock repurchase program. This authorization is in addition to the $99.8 million still available under our $300.0 million stock repurchase program authorization in July 2005.

47



        See Part III, Item 12 of this Annual Report on Form 10-K for information as of December 31, 2005, with respect to shares of our common stock that may be issued under our existing equity compensation plans.


ITEM 6.    SELECTED FINANCIAL DATA

        The following selected historical consolidated financial and other data are qualified in their entirety by reference to, and should be read in conjunction with, our consolidated financial statements and the related notes thereto appearing elsewhere herein and "Management's Discussion and Analysis of Financial Condition and Results of Operations." Our selected statement of income data set forth below for each of the five years ended December 31, 2005, 2004, 2003, 2002, and 2001, and the balance sheet data as of December 31, 2005, 2004, 2003, 2002, and 2001, are derived from our consolidated financial statements.

 
  Year Ended December 31,
 
 
  2005
  2004
  2003(1)
  2002
  2001
 
 
  (Dollars in thousands, except per share data)

 
Statement of Income Data:                                
Total revenue   $ 2,034,555   $ 1,728,532   $ 1,177,987   $ 770,719   $ 542,059  
Educational services and facilities expense     628,665     557,144     413,515     294,375     213,871  
General and administrative expense     958,098     822,358     535,298     337,987     233,745  
Depreciation and amortization expense     78,720     57,469     43,908     33,636     30,818  
Income from operations     369,072     291,561     185,266     104,721     63,625  
Income before provision for income taxes     383,283     295,669     189,113     105,184     64,782  
Income from continuing operations     239,936     179,619     112,804     61,819     35,303  
Loss from discontinued operations(2)     (6,058 )                
Net income     233,878     179,619     112,804     61,819     35,303  

Net income per share—Basic

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
  Income from continuing operations   $ 2.38   $ 1.77   $ 1.17   $ 0.68   $ 0.40  
  Loss from discontinued operations     (0.06 )                
   
 
 
 
 
 
  Net income   $ 2.32   $ 1.77   $ 1.17   $ 0.68   $ 0.40  
   
 
 
 
 
 
Net income per share—Diluted                                
  Income from continuing operations   $ 2.32   $ 1.71   $ 1.12   $ 0.65   $ 0.39  
  Loss from discontinued operations     (0.06 )                
   
 
 
 
 
 
  Net income   $ 2.26   $ 1.71   $ 1.12   $ 0.65   $ 0.39  
   
 
 
 
 
 

Balance Sheet Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
Cash, cash equivalents, and investments   $ 404,401   $ 349,458   $ 161,235   $ 33,474   $ 39,675  
Working capital (deficit)     251,800     191,944     (3,193 )   (30,910 )   (549 )
Total assets     1,506,105     1,387,012     1,125,998     587,908     491,660  
Total debt obligations     16,985     23,865     105,275     32,769     89,922  
Total stockholders' equity     1,036,247     984,831     729,169     393,410     299,771  
                                 

48



Other Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
EBITDA(3)   $ 445,819   $ 352,988   $ 233,862   $ 140,106   $ 96,359  
EBITDA margin(3)     21.9 %   20.4 %   19.9 %   18.2 %   17.8 %

Net cash provided by operating activities

 

$

378,225

 

$

376,154

 

$

233,287

 

$

106,230

 

$

51,981

 
Net cash used in investing activities     (399,537 )   (141,770 )   (190,446 )   (68,087 )   (100,692 )
Capital expenditures, net     125,626     142,781     100,272     60,871     54,550  
Net cash provided by (used in) financing activities   $ (189,703 ) $ (50,915 ) $ 81,409   $ (44,497 ) $ 54,908  

Student population(4)

 

 

107,300

 

 

100,350

 

 

81,900

 

 

51,600

 

 

41,100

 
Number of campuses(5)     86     82     78     43     41  

(1)
On July 1, 2003, we acquired 100% of the issued and outstanding stock of Whitman Education Group, Inc. ("Whitman"). Whitman was a proprietary provider of career-oriented postsecondary education. Through three wholly-owned subsidiaries, Whitman operated 22 schools in 13 states that offered a range of health education, information technology, and business studies. See Note 5 "Business Acquisitions" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of the Whitman acquisition, as well as other acquisitions completed in 2003, and the relative impact on our consolidated financial position and results of operations.

(2)
During 2005, we recorded a loss from discontinued operations of $6.1 million. The loss is attributable to a $5.1 million loss from discontinued operations recognized upon the disposition of the net assets of our IADT—Montreal campus that was designated for "teach-out" in January 2005. The remainder of the loss is attributable to a $1.0 million loss from discontinued operations related to our IADT—Ottawa campus, which completed all teach-out activities during the first quarter of 2005. See Note 19 "Discontinued Operations" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of discontinued operations.

(3)
For any period, earnings before interest, taxes, depreciation, and amortization ("EBITDA") equals income before the cumulative effect of change in accounting principle, provision for income taxes, interest income, interest expense, and depreciation and amortization, as follows:

 
  Year Ended December 31,
 
 
  2005
  2004
  2003
  2002
  2001
 
 
  (In thousands)

 
Net income   $ 233,878   $ 179,619   $ 112,804   $ 61,819   $ 35,303  
Provision for income taxes     143,347     116,050     76,309     43,365     29,479  
Interest income     (11,967 )   (2,952 )   (1,004 )   (808 )   (734 )
Interest expense     1,841     2,802     1,845     2,094     1,493  
Depreciation and amortization     78,720     57,469     43,908     33,636     30,818  
   
 
 
 
 
 
EBITDA   $ 445,819   $ 352,988   $ 233,862   $ 140,106   $ 96,359  
   
 
 
 
 
 

EBITDA margin equals EBITDA divided by total revenue. Neither EBITDA nor EBITDA margin should be considered alternatives to, nor is there any implication that they are more meaningful than, any measure of performance or liquidity promulgated under accounting principles generally accepted in the U.S. We believe that EBITDA is particularly meaningful due principally to the role acquisitions have played in our development. Historically, our growth through acquisitions has resulted in significant non-cash depreciation and amortization expense because a significant portion of the purchase price of an acquired school is generally allocated to depreciable fixed assets.

(4)
Represents the approximate total student population of our schools as of October 31.

(5)
Represents the total number of campuses operated by our schools, including our schools' online campuses, as of December 31.

49



ITEM 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

        The discussion below contains "forward-looking statements," as defined in Section 21E of the Securities Exchange Act of 1934, as amended, that reflect our current expectations regarding our future growth, results of operations, cash flows, performance and business prospects, and opportunities, as well as assumptions made by, and information currently available to, our management. We have used words such as "anticipate," "believe," "plan," "expect," "intend," "will," and similar expressions, but these words are not the exclusive means of identifying these forward-looking statements. These statements are based on information currently available to us and are subject to various risks, uncertainties, and other factors, including, but not limited to, those matters discussed in Item 1A "Risk Factors" in Part I of this Annual Report on Form 10-K that could cause our actual growth, results of operations, cash flows, performance and business prospects, and opportunities to differ materially from those expressed in, or implied by, these statements. Except as expressly required by federal securities laws, we undertake no obligation to update such factors or to publicly announce the results of any of the forward-looking statements contained herein to reflect future events, developments, or changed circumstances, or for any other reason.

INTRODUCTION

        Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is intended to assist the reader in better understanding our business, results of operations, financial condition, changes in financial condition, critical accounting policies and estimates, and significant developments. MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements and the accompanying notes thereto appearing elsewhere herein. This section is organized as follows:

    Our Business—an overview of our business, a discussion of current business and industry opportunities, challenges, and risks, and a discussion of significant developments affecting our business, litigation, and regulatory matters.

    Summary of Critical Accounting Policies and Estimates—a discussion of accounting policies and estimates that we believe are most critical to our financial condition and results of operations and require management's most subjective or complex judgments.

    Results of Operations—an analysis and comparison of our consolidated results of operations for the years ended December 31, 2005, 2004, and 2003, as reflected in our consolidated statements of income.

    Liquidity, Financial Position, and Capital Resources—a discussion of our primary sources and uses of cash for the years ended December 31, 2005 and 2004, a discussion of selected changes in our financial position, and a summary of our future contractual obligations.

OUR BUSINESS

Overview

        We are a dynamic educational services company committed to quality, career-focused learning and led by passionate professionals who inspire individual worth and lifelong achievement. Since our founding in 1994, we have progressed rapidly toward our goal of becoming the world's leading provider of quality educational services. We are the world's largest on-ground provider of private, for-profit postsecondary education and have a substantial and growing presence in online education. Our schools, which are segregated into two reporting segments, prepare students for professionally and personally rewarding careers through the operation of 86 campuses, including two online campuses, located throughout the United States and in France, Canada, and the United Kingdom.

50



        The CSU segment represents an aggregation of our on-ground schools that provide educational services primarily in a classroom or laboratory setting. Our CSU segment schools offer doctoral degree, master's degree, bachelor's degree, associate degree, and non-degree certificate and diploma programs in the career-oriented disciplines of business studies, visual communication and design technologies, health education, culinary arts, and information technology.

        The operating results of our CSU segment schools fluctuate on a quarterly basis, primarily as a result of changes in student enrollment. Our CSU segment schools typically experience a seasonal increase in enrollment in the fall, traditionally when the largest number of new high school graduates begins postsecondary education. Furthermore, although we encourage year-round attendance at all campuses, certain programs offered by some of our CSU segment schools include summer breaks. As a result of these factors, total student enrollment and revenue for our CSU segment schools are typically highest in the fourth quarter (October through December) and lowest in the second quarter (April through June). Operating costs for our CSU segment schools do not fluctuate as significantly on a quarterly basis, except for admissions and advertising expenses, which are typically higher during the second quarter and third quarter (April through September) in support of seasonally high enrollment. We anticipate that these seasonal trends will continue.

        The OEG segment represents an aggregation of the online campuses of AIU, AIU Online, and CTU, CTU Online and Stonecliffe College Online (an academic division of CTU). Our schools' online campuses collectively offer degree programs in the career-oriented disciplines of information technology, computer science, business, visual communication, criminal justice, and education. These programs provide students with the knowledge and skills that we believe they will need to compete successfully in today's competitive job market.

        The results of operations of AIU Online fluctuate on a quarterly basis, primarily as a result of the campuses' academic calendar and, more specifically, the number of instructional days in each quarter. Historically, the number of revenue-generating instructional days has been highest during the first and second quarters (January through June), lower in the third quarter (July through September), and lowest in the fourth quarter (October through December). The operating costs of AIU Online do not fluctuate as significantly on a quarterly basis. We anticipate that these seasonal trends will continue.

        The results of operations of CTU Online are not significantly impacted by seasonal trends, as, historically, the number of revenue-generating instructional days during each quarter and related operating costs have not fluctuated significantly.

        During 2005, we continued our strong growth trends and opened new doors for students through innovations in online education. We also faced a number of significant challenges during the year related to, among other things, certain legal and regulatory matters, negative publicity resulting from such matters, and heightened scrutiny of the for-profit, postsecondary education industry. As a result of these and other operational issues, the student population and operating margin percentage of our CSU segment declined during 2005. Online student population continued to grow during 2005, which we believe demonstrates the growing societal acceptance of online education programs and the increasing demand for our schools' online offerings. Our total student population as of January 31, 2006, was approximately 104,200 students, including approximately 32,700 students enrolled at our OEG segment campuses.

        We expect that 2006 will be a year of opportunity and positive change. We will continue to concentrate on sustainable growth initiatives that we believe will support long-term growth. Chief among them is our commitment to providing high-quality education supported by excellent customer service and a well-developed infrastructure. In furtherance of this commitment, we will continue to focus on the complete student academic life-cycle, which begins with admissions and ends with graduation and employment. To better meet the needs and demands of our students during 2006, we will expand the scope and availability of our newly-developed hybrid learning model. We will also

51


centralize certain of our telemarketing efforts at our corporate office to enhance the efficiency and effectiveness of these efforts and improve lead conversion rates. We believe that, by the end of 2006, CSU segment population, which declined during 2005, will trend upward, in part, as a result of these efforts. We expect enrollment at our schools' online campuses to continue to grow at a high rate. We will continue to promote a strong compliance culture throughout our organization and are dedicated to working cooperatively with applicable federal and state agencies and accrediting bodies to resolve existing regulatory matters.

Current Business and Industry Opportunities, Challenges and Risks

        In addition to the risk factors discussed in Part I, Item 1A of this Annual Report on Form 10-K, we have identified a number of key factors and trends related to our business and industry that represent opportunities, challenges, and risks.

        U.S. Department of Education.    As previously disclosed, the ED notified us in June 2005 that it is reviewing our previously announced restated consolidated financial statements and our annual compliance audit opinions for the years 2000 through 2003. At the same time, the ED also advised us that it is evaluating pending school program reviews that have taken place at certain of our schools, which are all included in our CSU segment. The ED has indicated that until these matters are addressed to its satisfaction, it will not approve any new applications by us for pre-acquisition review or change of ownership. The ED has further advised us that during this period, it will not approve applications for any additional branch campuses, which the ED refers to generally in its regulations as "additional locations."

        In February 2006, we received a letter from the ED notifying us that it is reviewing our 2004 compliance audit opinions and that the general restrictions imposed pursuant to its letter to us in June 2005 will remain in place as it continues its review. See Note 14 "Commitments and Contingencies—Federal Regulatory Actions" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for additional discussion of this matter.

        We cannot predict the duration or outcome of the ED's review, and the review may expand, and other regulatory agencies may become involved. Furthermore, any adverse publicity related to this action may harm our reputation and impair our ability to attract and retain students at our schools. These restrictions imposed by the ED, or a negative outcome of the ED's review, could have a material adverse effect on our business, financial condition, results of operations, and cash flows.

        American InterContinental University Accreditation Matter.    As previously disclosed, on December 6, 2005, SACS notified AIU that SACS had placed the school on "Probation" status for one year pending the school's satisfactory remediation of certain accreditation matters with regards to SACs Principles of Accreditation. A status review of AIU's Probation status is currently scheduled for SACS' December 2006 meeting. AIU is in the process of addressing SACS' recommendations and is committed to resolving all issues identified. See Note 14 "Commitments and Contingencies—Accrediting Body Actions" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of this matter.

        On-ground Operations.    As noted previously, student population at many of our on-ground schools declined during 2005. While cost-cutting measures were enacted in an effort to mitigate the effect on profitability of such declines in student population, lower than expected student population at our on-ground schools had an adverse impact on operating margin percentages, and we believe that the operating margin percentages of our on-ground schools will continue to be depressed until student enrollment begins to increase.

        On-ground school retention rates have been trending upward in recent months, and we believe opportunities exist for significant further improvement. Lead generation remains strong, and lead costs

52



remain stable. We believe these factors will have a stabilizing effect in the near term on on-ground student population and ultimately contribute to future on-ground student population growth.

        During 2006, we will continue to refine the advertising strategy of our on-ground schools to ensure that a majority of our advertising dollars are spent on media sources that demonstrate the greatest promise of attracting quality leads. We will also hire additional admissions staff, as necessary, to ensure that the leads generated pursuant to our marketing efforts are effectively pursued on a timely basis.

        As previously disclosed, the adoption of stricter credit standards has resulted in a reduction of bad debt expense as a percentage of revenue at our on-ground schools but has also limited the number of prospective students who qualify for certain private financing options. While our adoption of stricter credit standards has adversely affected population growth at certain of our on-ground schools, we believe that our adherence to such standards is in the best long-term interest of our schools. We will continue to evaluate the private financing options that we offer to our students to ensure that such offerings are aligned with our objectives of consistent, quality enrollment and profitability growth.

        The variable spending of our on-ground schools is based primarily on projected student population levels, and we continuously evaluate the variable cost structure of our on-ground campuses to ensure that it is consistent with existing and expected student enrollment. Certain costs, including depreciation and occupancy costs, are relatively fixed in the short term and may not always be adjustable in response to variations in student population levels. However, to the extent that certain on-ground schools have space capacity in excess of that we believe is necessary to support expected future enrollment growth, we may pursue opportunities to reduce short-term and long-term occupancy costs by subleasing such excess space or terminating existing lease agreements.

        During the last three months of 2004 and throughout 2005, the schools that comprise our Gibbs operating division, which is aggregated into our CSU segment, experienced a significant decline in student population relative to student population in prior periods. This decline in student population has resulted in a decrease in revenue for the Gibbs operating division relative to prior periods and has negatively impacted the profitability of our CSU segment as a whole. We continue to expect limited growth and low levels of profitability from the Gibbs operating division in the near term. Our management is devoting increased attention to the Gibbs operating division schools in an effort to improve the division's performance.

        We have identified a number of factors in recent months that suggest the stabilization of, but not necessarily an improvement in, Gibbs' operating results, including, among others, improvements in show rates and retention rates, a reduction in employee turnover, and a reduction in bad debt expense. Also, we believe that the introduction by our Gibbs schools of certain high-demand programs will have a positive impact on enrollment and profitability during 2006.

        Our culinary startup campuses, including our LCB campuses in Las Vegas, Miami, and Atlanta, and our Kitchen Academy campus in Hollywood, California have progressed as planned and are expected to contribute positively to future student enrollment and profitability growth.

        While we currently have no plans to sell or close any of our on-ground schools, we continuously evaluate our schools' programs to ensure that there is a market for the programs that the school offers and that our continued investment in the school is consistent with our overall objective of maximizing stockholder value.

        Online Operations.    We expect that the operating margin percentage achieved by our OEG segment campuses will continue to be strong but may decline from prior period levels as a result of (1) a 2006 CTU Online growth rate that is expected to exceed the 2006 AIU Online growth rate, and, to a lesser degree, (2) our investment in CTU's second online platform, Stonecliffe College Online, which began instruction in February 2006. CTU Online operates at a lower operating margin percentage than does AIU Online, and, thus, the disproportionate anticipated growth of our CTU

53



Online campus is expected to effectively lower the operating margin percentage of the OEG segment as a whole.

        As a result of the expected disproportionate growth of CTU Online and the introduction of Stonecliffe College Online, both of which offer longer-termed programs than does AIU Online, we expect average revenue per online student to decrease in the future. However, we believe that by providing our customers with a flexible array of online programs, including the accelerated programs offered by AIU Online, the traditionally-paced programs offered by CTU Online, and the decelerated programs offered by CTU Online and Stonecliffe College Online, we have increased and will continue to increase our market share.

        AIU Online enrollment growth rates declined during 2005 and are likely to continue to slow in the future as the business matures. We also believe that AIU Online's new student enrollment has been adversely impacted by negative publicity related to AIU's Probation status. However, we believe there remains a high level of interest in AIU Online's accelerated programs and that such demand will enable AIU Online to sustain strong growth rates in the long term.

        The results of operations and operating margin percentage of our OEG segment during 2005 were adversely impacted by an increase in bad debt expense as a percentage of revenue. The increase in OEG segment bad debt expense as a percentage of revenue was primarily attributable to a decline in overall OEG segment student retention, which was attributable largely to the disproportionate growth of CTU Online. CTU Online, as discussed above, offers longer programs and has historically experienced a higher rate of student attrition than has AIU Online. Thus, the disproportionate growth of CTU Online resulted in a reduction of the overall retention rate of the OEG segment and an overall increase in OEG bad debt expense as a percentage of revenue.

        Negative press coverage.    We believe that negative press coverage in 2004 and 2005 regarding us and certain of our schools may be adversely impacting (1) the rate at which our leads for prospective students are converting into enrolled students and (2) the rate at which our enrolled students are starting school, particularly at the schools that have been the subject of local negative publicity. However, the negative press coverage does not appear to have adversely affected our lead volume or lead cost in most of the markets that we serve.

        Evaluation of Goodwill Balances.    In accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets ("SFAS 142"), our goodwill balances were reviewed for impairment during 2005 through the application of a fair-value-based test. The results of the test indicated no goodwill impairment, as, for all reporting units, our estimate of reporting unit fair value exceeded the carrying value of the reporting unit. Our estimate of the fair value of each of our reporting units was based primarily on projected future operating results and cash flows and other assumptions. Although we believe our projections and resulting fair values are reasonable, historically, our projections have not always been achieved. For our Health Education division and Gibbs division reporting units, estimated fair values exceed carrying values by a relatively slim margin, such that the failure of either of these reporting units to achieve forecasted operating results and cash flows in the near term or long term may reduce its estimated fair value below its carrying value and result in the recognition of a goodwill impairment charge, the amount of which we are not able to determine at this time. The goodwill balance as of December 31, 2005, attributable to our Health Education division and Gibbs division is $216.0 million and $10.4 million, respectively. We will continue to monitor the operating results and cash flows of these reporting units on a quarterly basis for signs of possible declines in estimated fair value and goodwill impairment.

        Student Accounts Receivable Key Indicators.    Given the reduction in days sales outstanding and student receivable balances that we have realized in 2005, relative to 2004 days sales outstanding and student receivable balances, as discussed herein, opportunities to further reduce bad debt expense as a

54



percentage of revenue on an ongoing basis may be limited. Furthermore, increases in days sales outstanding and student receivable balances or changes in the relative distribution of our total student receivable balances between in-school student receivables and out-of-school student receivables may result in an increase in our bad debt expense as a percentage of revenue in future periods.

        Hybrid Learning.    During 2005, we made advances in the development of our unique hybrid learning model, which capitalizes on our schools' online campuses' virtual campus platform and enables students at our on-ground campuses to complete approximately 50% of their academic program on-ground and approximately 50% online. AIU and CTU were our first on-ground schools to offer hybrid educational programs as a complement to those schools' existing online campuses. We expect to expand our hybrid learning offerings to other selected schools during 2006.

        International Expansion.    We believe that the international market for our services represents a significant growth opportunity. We believe that international students are increasingly turning to online U.S. educational programs as a means of obtaining a U.S. education without incurring the high travel and living costs and facing stringent visa requirements associated with studying abroad. Our belief is supported by the fact that the student population of our schools' online campuses includes students located in more than 60 countries. In addition, many U.S. residents live and work in foreign countries and could benefit from the opportunity to continue their education while outside the U.S. We have also continued to pursue opportunities to expand our on-ground presence internationally, both through the growth of our existing schools, such as our INSEEC Group, and through potential acquisitions of foreign educational institutions. The restrictions imposed by the ED do not affect our international expansion pospects.

        New Initiatives.    In October 2004, we announced the launch of our New Initiatives Group, whose mission is to expand the scope of our online business. The New Initiatives Group has initially focused on the development of a range of short-term online learning and informational programs that will generate revenue through the sale of products, premium content, and advertising space. The educational and informational focus of these online programs is aimed at the growing number of Internet consumers who are enthusiasts of topics related to our core curricula, including culinary arts, health education, and information technology. Our new online development initiatives are designed to expand our reach into the broad consumer market with online offerings that target growing segments of Internet users.

        In October 2005, our New Initiatives Group launched Chefs.com, its first consumer-focused website. Chefs.com is a culinary "super-site" that provides consumers with interactive features, multi-media content, a courseware library, and a diverse recipe collection. In February 2006, our New Initiative Group launched Blish.com, a fully digital marketplace aimed at bringing together buyers and sellers of digital content. Utilizing Blish.com's easy-to-use web portal, owners of digital content may post their content for sale in real time, control the price of each item, and collect royalties from sales. Blish.com markets a wide array of digital content, including text files, such as e-books, manuals, and legal forms; computer-related items, such as software, video games, 3D modeling, and stock photography; audio files, including motivational seminars, academic lectures, and music tracks; and other consumer items such as ring tones, screen savers, mobile games, and video clips.

        The New Initiatives Group will continue to develop additional enthusiast websites related to our core curricula.

        Economic Conditions.    We believe that an overall strengthening of the macroeconomic conditions in the U.S. has provided potential students with more viable immediate employment opportunities and may be adversely impacting our ability to successfully recruit and enroll students. As a result of a stronger job market, we believe that prospective students may choose to enter or remain in the workforce rather than pursue continuing education. This trend has affected the operating results at

55



some of our schools, as we believe there is a level of counter-cyclicality inherent within certain of our program offerings, as evidenced by the recent decreased lead conversion rates and show rates for those programs.

Litigation and Regulatory Matters

        See Note 14 "Commitments and Contingencies" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a discussion of selected litigation and regulatory matters.

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND ESTIMATES

        We have identified the accounting policies and estimates listed below as those that we believe are most critical to our financial condition and results of operations and that require management's most subjective and complex judgments in estimating the effect of inherent uncertainties. This section should be read in conjunction with Note 2 "Significant Accounting Policies" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K, which includes a discussion of these and other significant accounting policies.

Revenue Recognition

        Our revenue is derived primarily from academic programs taught to students who attend our schools. We generally segregate our revenue into two categories, (1) tuition and registration fees and (2) other. Tuition and registration fees represent costs to our students of educational services provided by our schools. We generally bill a student for tuition at the beginning of an academic term, and we recognize the tuition as revenue on a straight-line basis over the academic term, which includes any applicable externship periods. The portion of tuition payments received from students but not earned is recorded as deferred tuition revenue and reflected as a current liability on our consolidated balance sheet, as such amount represents revenue that we expect to earn within the next year. If a student withdraws from one of our schools prior to the completion of the academic term, we refund the portion of tuition already paid that, pursuant to our refund policy and applicable federal and state law and accrediting agency standards, we are not entitled to retain.

        Our schools' academic year is generally at least 30 weeks in length but varies both by school and program of study and is divided by academic terms. Academic terms are determined by start dates, which also vary by school and program. Our schools charge tuition at varying amounts, depending on the school and on the type of program and specific curriculum. Our students finance tuition costs through a variety of funding sources, including, among others, federal loan and grant programs, state grant programs, private loans and grants, private and institutional scholarships, and cash payments. Our schools generally increase tuition one or more times annually.

        Other revenue consists of, among other things, bookstore sales, student laptop computer sales, dormitory revenue, restaurant revenue, contract training revenue, and cafeteria revenue. Revenue from dormitory and cafeteria services is generally billed to a student at the beginning of an academic term and is recognized on a straight-line basis over the term of a student's dormitory and cafeteria use. Other dormitory and cafeteria revenue, as well as student laptop computer sales, bookstore sales, restaurant revenue, and contract training revenue, is billed and recognized as services are performed or goods are delivered.

        Certain of our schools bill students a single charge that covers tuition and required program materials, such as textbooks and supplies. Such billings, which we treat as a single accounting unit in accordance with EITF Issue 00-21 Revenue Arrangements with Multiple Deliverables, are recognized as tuition and registration fee revenue on a straight-line basis over the applicable academic term.

56



Allowance for Doubtful Accounts

        We extend unsecured credit for tuition to a portion of the students who are in enrolled at our schools.

        Based upon past experience and judgment, we establish an allowance for doubtful accounts with respect to tuition receivables. Our schools calculate and record allowances for doubtful accounts based on a standard allowance estimation methodology developed by corporate financial management. As discussed in Note 7 "Change in Allowance for Doubtful Accounts Estimate" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K, effective December 31, 2004, we modified our allowance estimation methodology in the fourth quarter of 2004. Our standard allowance estimation methodology considers a number of factors that, based on our collections experience, we believe have an impact on our credit risk and the realizability of our student receivables. Among these factors are a student's status (in-school or out-of-school), anticipated funding source (for example, federal loan or grant, state grant, private loan, student cash payments, etc.), whether or not an out-of-school student has completed his or her program of study, and our overall collections history. Out-of-school students include students who have withdrawn from or completed their programs of study. All other students are classified as in-school students.

        Our allowance estimation methodology divides our accounts receivable due from in-school students into groups according to each student's primary funding source. Our allowance methodology for out-of-school student accounts separates such accounts into two categories of students—those who have completed their programs of study and those that have not. We apply allowance percentage estimates that are based upon our historical collections experience to each in-school student funding source group and out-of-school student category.

        We monitor our collections and write-off experience to assess whether adjustments to our allowance percentage estimates are necessary. In this way, we believe that our allowance estimation methodology reflects our most recent collections experience and is responsive to changes in the total mix of student funding sources. Changes in trends in any of the factors that we believe impact the realizability of our student receivables, as noted above, or modifications to our credit standards, collection practices, and other related policies may impact our estimate of our allowance for doubtful accounts and our financial results. Our standard allowance estimation methodology is evaluated for propriety by corporate financial management on a periodic basis and modified as necessary. Changes to the design of our standard allowance estimation methodology, including our allowance percentage estimates, may impact our estimate of our allowance for doubtful accounts and our financial results.

        Corporate financial management reviews the allowance estimate calculations completed by each of our campuses to monitor compliance with our allowance estimation methodology and, based on judgment and consideration of emerging trends and existing facts and circumstances, may adjust the consolidated balance of our allowance estimate, as appropriate.

        A one percentage point change in our allowance for doubtful accounts as a percentage of gross student receivables as of December 31, 2005, would result in a change in net income of $0.8 million during the year then ended.

        Because a substantial portion of our revenue is derived from Title IV Programs, any legislative or regulatory action that significantly reduces the funding available under Title IV Programs, or the ability of our students or schools to participate in Title IV Programs, would likely have a material adverse effect on our business, results of operations, cash flows, and financial condition, including the realizability of our receivables.

57



Contingencies

        We accrue for costs associated with certain contingencies, including, but not limited to, settlement of legal proceedings and regulatory compliance matters, when such costs are probable and reasonably estimable. Liabilities established to provide for contingencies are adjusted as further information develops, circumstances change, or contingencies are resolved.

Goodwill and Indefinite-Lived Intangible Assets

        Goodwill represents the excess of cost over fair market value of identifiable net assets acquired through business purchases. In accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets ("SFAS 142") goodwill and indefinite-lived intangible assets are reviewed for impairment on at least an annual basis by applying a fair-value-based test. In evaluating the recoverability of the carrying value of goodwill and other indefinite-lived intangible assets, we must make assumptions regarding the fair value of our reporting units, as defined under SFAS 142. If our fair value estimates or related assumptions change in the future, we may be required to record impairment charges related to goodwill and other indefinite-lived intangible assets.

        In performing our annual review of goodwill balances for impairment, we estimate the fair value of each of our reporting units based primarily on projected future operating results and cash flows, and other assumptions. Projected future operating results and cash flows used for valuation purposes may reflect considerable improvements relative to historical periods with respect to, among other things, revenue growth and operating margins. Although we believe our projected future operating results and cash flows and related estimates regarding fair values are based on reasonable assumptions, historically, projected operating results and cash flows have not always been achieved. The failure of one of our reporting units to achieve forecasted operating results and cash flows in the near term or long term may reduce the estimated fair value of the reporting unit below its carrying value and result in the recognition of a goodwill impairment charge. We monitor the operating results and cash flows of our reporting units on a quarterly basis for signs of possible declines in estimated fair value and goodwill impairment.

Long-lived Assets

        On an ongoing basis, we review property and equipment, definite-lived intangible assets, and other long-lived assets for impairment whenever events or circumstances indicate that carrying amounts may not be recoverable. To date, no such events or changes in circumstances have occurred. If such events or changes in circumstances occur, we will recognize an impairment loss if the undiscounted future cash flows expected to be generated by the asset are less than the carrying value of the related asset. The impairment loss would adjust the asset to its fair value.

        In evaluating the recoverability of long-lived assets, we must make assumptions regarding estimated future cash flows and other factors to determine the fair value of such assets. If our fair value estimates or related assumptions change in the future, we may be required to record impairment charges related to long-lived assets and definite-lived intangible assets.

Income Taxes

        We account for income taxes in accordance with Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes ("SFAS 109"). This requires the recognition of deferred income taxes based upon the tax consequences of temporary differences between financial reporting and income tax reporting by applying enacted statutory income tax rates applicable to future years to differences between the financial statement carrying amounts and the tax basis of existing assets and liabilities. SFAS 109 also requires that deferred income tax assets be reduced by a valuation allowance if it is more likely than not that some portion of the deferred income tax asset will not be realized.

58



        In connection with the preparation of our consolidated financial statements, we are required to estimate our income tax liability for each of the tax jurisdictions in which we operate. This process involves estimating our actual current income tax expense and assessing temporary differences resulting from differing treatment of certain income or expense items for income tax reporting and financial reporting purposes. We also recognize as deferred income tax assets the expected future income tax benefits of net operating loss carry forwards. In evaluating the realizability of deferred income tax assets associated with net operating loss carry forwards, we consider, among other things, expected future taxable income, the expected timing of the reversals of existing temporary reporting differences, and the expected impact of tax planning strategies that may be implemented to prevent the potential loss of future income tax benefits. Changes in, among other things, income tax legislation, statutory income tax rates, or future taxable income levels could materially impact our valuation of income tax assets and liabilities and could cause our income tax provision to vary significantly among financial reporting periods.

59


RESULTS OF OPERATIONS

        The summary financial data table below should be referenced in connection with the following discussion of our results of operations.

 
  For the Year Ended December 31,
  % Change
 
 
  2005
  % of Total CEC
  2004
  % of Total CEC
  2003
  % of Total CEC
  2005 vs. 2004
  2004 vs. 2003
 
 
  (Dollars in Thousands)

   
   
 
REVENUE:                                        
CSU segment                                        
  Tuition and registration fees   $ 1,275,618   63 % $ 1,236,449   72 % $ 942,668   80 % 3 % 31 %
  Other     92,813   4 %   100,619   5 %   86,508   7 % (8 )% 16 %
   
     
     
             
    Total CSU segment revenue     1,368,431   67 %   1,337,068   77 %   1,029,176   87 % 2 % 30 %
   
     
     
             

OEG segment

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
  Tuition and registration fees     663,541   33 %   372,001   22 %   135,902   12 % 78 % 174 %
  Other     2,568   %   19,463   1 %   12,909   1 % (87 )% 51 %
   
     
     
             
    Total OEG segment revenue     666,109   33 %   391,464   23 %   148,811   13 % 70 % 163 %
   
     
     
             

Corporate and other

 

 

15

 


%

 


 


%

 


 


%

100

%


%
   
     
     
             
    Total revenue   $ 2,034,555       $ 1,728,532       $ 1,177,987       18 % 47 %
   
     
     
             

EDUCATIONAL SERVICES AND FACILITIES EXPENSE

 

$

628,665

 

 

 

$

557,144

 

 

 

$

413,515

 

 

 

13

%

35

%

GENERAL AND ADMINISTRATIVE EXPENSE:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
Advertising expense   $ 244,593       $ 199,726       $ 128,995       23 % 55 %
Bad debt expense     80,348         105,678         53,554       (24 )% 97 %
Other     633,157         516,954         352,749       22 % 47 %
   
     
     
             
    Total general and administrative expense   $ 958,098       $ 822,358       $ 535,298       17 % 54 %
   
     
     
             
Bad debt expense as a percentage of total revenue     3.9 %       6.1 %       4.5 %            

INCOME FROM OPERATIONS:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
CSU segment (excluding share of affiliate earnings)   $ 168,375   46 % $ 171,021   59 % $ 148,649   80 % (2 )% 15 %
OEG segment     262,718   71 %   158,815   54 %   66,659   36 % 65 % 138 %
Corporate & other     (62,021 ) (17 )%   (38,275 ) (13 )%   (30,042 ) (16 )% (62 )% (27 )%
   
     
     
             
    Total income from operations   $ 369,072       $ 291,561       $ 185,266       27 % 57 %
   
     
     
             

Operating profit percentage:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
  CSU segment (excluding share of affiliate earnings)     12.3 %       12.8 %       14.4 %            
  OEG segment     39.4 %       40.6 %       44.8 %            
  CEC     18.1 %       16.9 %       15.7 %            

PROVISION FOR INCOME TAXES:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
Provision for income taxes   $ 143,347       $ 116,050       $ 76,309       24 % 52 %
Effective tax rate     37.40 %       39.25 %       40.35 %            

LOSS FROM DISCONTINUED OPERATIONS:

 

$

(6,058

)

 

 

 


 

 

 

 


 

 

 

(100

)%


%

NET INCOME:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 
Net income   $ 233,878       $ 179,619       $ 112,804       30 % 59 %
Net income percentage     11.5 %       10.4 %       9.6 %            

60


        Educational services and facilities expense includes costs directly attributable to the educational activity of our schools, including, among other things, (1) salaries and benefits of faculty, academic administrators, and student support personnel, (2) costs of educational supplies and facilities, including rents on school leases, certain costs of establishing and maintaining computer laboratories, costs of student housing, and owned and leased facility costs, (3) royalty fees paid to Le Cordon Bleu, and (4) certain student financing costs. Also included in educational services and facilities expense are costs of other goods and services provided by our schools, including, among other things, costs of textbooks, laptop computers, dormitory services, restaurant services, contract training, and cafeteria services.

        General and administrative expense includes salaries and benefits of personnel in corporate and school administration, marketing, admissions, accounting, human resources, legal, and compliance. Costs of promotion and development, advertising and production of marketing materials, occupancy of the corporate offices, and bad debt expense are also included in this expense category.

Year Ended December 31, 2005 Compared to Year Ended December 31, 2004

Revenue

        Colleges, Schools and Universities Segment Revenue.    CSU segment tuition and registration fee revenue increased $39.2 million, or 3%, from $1.236 billion during 2004 to $1.276 billion during 2005. The CSU segment tuition and registration fee revenue increase is primarily attributable to price increases at most of our CSU segment schools during 2005, which averaged approximately 7% but varies depending on school, geographic area, and program. The increase is also attributable to a shift in student enrollment mix. These increases were offset, in part, by a decline in average student population during 2005 at a majority of our CSU segment schools as compared to the average student population of our CSU segment schools during 2004.

        CSU segment other revenue decreased $7.8 million, or 8%, from $100.6 million during 2004 to $92.8 million during 2005. This decrease is primarily attributable to a decline in laptop computer sales at many of our CSU segment schools, which is largely a result of the overall decline in average student population during 2005 at those schools. A decrease during 2005 in contract training revenue, resulting primarily from the discontinuation of contract training programs at certain of our CSU segment schools, also contributed to the overall decrease in 2005 CSU segment other revenue.

        Online Education Group Segment Revenue.    OEG segment tuition and registration fee revenue increased $291.5 million, or 78%, from $372.0 million during 2004 to $663.5 million during 2005. OEG segment tuition and registration fee revenue growth is primarily attributable to an increase in average student population at our schools' online campuses during 2005 as compared to average student population at our schools' online campuses during 2004. Our schools' online campus student population growth is primarily attributable to the continued growth of the online education market and our schools' online campuses' continued penetration into that expanded market through increased investment in marketing activities and recruiting efforts and an expansion of program offerings and online platforms.

        During the first quarter of 2004, our schools' online campuses began billing new students a single charge that covers tuition and required program materials, such as textbooks and supplies, which is included as a component of tuition and registration fee revenue. Previously, these required program materials were billed separately from tuition, and the related revenue was recorded as a component of other revenue. The impact of this change has resulted in the disproportionate growth of 2005 OEG segment tuition and registration fee revenue relative to the decline of 2005 OEG segment other revenue.

61


        OEG segment other revenue decreased $16.9 million, or 87%, from $19.5 million during 2004 to $2.6 million during 2005. This decrease in OEG segment other revenue is primarily attributable to the change in tuition and program material billing discussed above.

Educational Services and Facilities Expense

        Educational services and facilities expense increased $71.5 million, or 13%, from $557.1 million during 2004 to $628.7 million during 2005. The increase in educational services and facilities expense is primarily attributable to an overall increase in academic and occupancy costs at both our CSU segment schools and our OEG segment online campuses.

        The increase in CSU segment educational services and facilities expense represents approximately seven percentage points of the total 13% increase in educational services and facilities expense. This increase is primarily attributable to increased academic salaries and benefits costs resulting from increases in employee headcount at our CSU schools. Also contributing to the increase in CSU segment educational services and facilities expense are increased occupancy costs attributable to our existing CSU schools' expansion activities and new start-up campuses opened primarily in 2004 and, to a lesser extent, in 2005. Increases in CSU segment educational services and facilities expense were offset, in part, by the effect of spending restraints and cost reduction measures enacted during 2005 by many of our CSU segment schools in response to the decline in average student population at those schools. We believe that these cost reduction measures did not affect the quality of student services.

        The increase in OEG segment educational services and facilities expense represents approximately six percentage points of the total 13% increase in educational services and facilities expense. This increase was primarily driven by increases in salaries and benefits of academic staff hired by our schools' online campuses during the year to support the growth of the business. The increase in educational services and facilities expense is also attributable to additional student service activities designed to improve retention, an increase in curriculum development activities, and an increase in occupancy costs associated with facility expansions in support of our schools' online campuses during 2004 and 2005. The increase in OEG segment educational services and facilities expense is also attributable to investments made during 2005 by CTU in Stonecliffe College Online.

General and Administrative Expense

        General and administrative expense increased $135.7 million, or 17%, from $822.4 million during 2004 to $958.1 million during 2005. This increase is primarily attributable to an increase in advertising, marketing, and admissions costs at both our CSU segment schools and our OEG segment online campuses, an increase in bad debt expense at our OEG segment online campuses, and an increase in net, unallocated corporate administrative costs. The increase was offset, in part, by a decrease in bad debt expense at our CSU segment schools.

        The increase in OEG segment general and administrative expense represents approximately 17 percentage points of the total 17% increase in general and administrative expense. As discussed above, the increase in OEG segment general and administrative expense is primarily attributable to an increase in general advertising, marketing, and admissions costs, which were incurred by our schools' online campuses in support of increased student lead, enrollment, and start volume. An increase in admissions headcount resulted in increased salaries and benefits expense in this area. The increase is also attributable to increased financial aid, career services, and other administrative costs incurred by our schools' online campuses necessary to support the increase in online student population mentioned above. The increase in OEG segment general and administrative expense is also attributable to investments made during 2005 by CTU in Stonecliffe College Online.

        Contributing significantly to the increase in OEG segment general and administrative expense was an increase in bad debt expense at our schools' online campuses of approximately $22.4 million, or

62



89%, from $25.1 million during 2004 to $47.5 million during 2005. The increase in OEG segment bad debt expense is primarily attributable to a decline in student retention at our schools' online campuses during the year, resulting in a shift in the relative distribution of student receivable balances from in-school student receivables to out-of-school student receivables. Out-of-school student receivable balances generally pose a greater credit risk than do in-school student receivables and are subject to higher bad debt allowance percentages. The decline in online student retention during 2005 was attributable largely to the disproportionate growth of CTU Online. CTU Online, as discussed above, offers longer programs and has historically experienced a higher rate of student attrition than has AIU Online. Thus, the disproportionate growth of CTU Online during 2005 resulted in a reduction in the overall retention rate of the OEG segment and an overall increase in OEG segment bad debt expense as a percentage of revenue. Improving retention rates will continue to be a focus for our schools' online campuses in the future.

        CSU segment general and administrative expense decreased during 2005. The decrease in CSU segment general and administrative expense represents approximately three percentage points of the total 17% increase in general and administrative expense. This decrease is primarily attributable to a decrease in bad debt expense at our CSU segment schools of approximately $48.5 million, or 60%, from $81.4 million during 2004 to $32.9 million during 2005. The decrease in CSU segment bad debt expense is primarily attributable to a decrease in overall student receivable exposure at our domestic CSU segment schools, primarily as a result of strong cash collections and stricter credit practices exercised during the period. Also, during the fourth quarter of 2004, we recorded a non-cash, pre-tax charge for a change in accounting estimate of our allowance for doubtful accounts of approximately $18.9 million, which was primarily related to our CSU segment schools. The recording of this change in estimate during 2004, to a certain extent, has diminished the comparability of 2005 and 2004 bad debt expense levels. See Note 7 "Change in Allowance for Doubtful Accounts Estimate" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of this matter.

        The decrease in CSU segment bad debt expense during the year was offset, in part, by an increase in administrative salaries and benefits costs incurred by our CSU segment schools, due primarily to employee headcount increases in the areas of compliance and financial aid processing, and increases in admissions and advertising costs incurred in support of 2006 enrollment targets. Overall CSU segment general administrative, advertising, marketing, and admissions cost increases were less than anticipated due to the effect of spending restraints and cost reduction measures enacted during 2005 at many of our CSU schools in response to the decline in average student population discussed above. We believe that these spending restraints and cost reduction measures did not affect the quality of student services.

        The increase in corporate and other general and administrative expense represents approximately three percentage points of the total 17% increase in general and administrative expense. The increase in net unallocated corporate and other general and administrative expense is primarily attributable to increases in salaries and benefits costs, caused largely by personnel increases within the corporate compliance, internal audit, and legal departments. Corporate personnel increases associated with certain centralized functions, including accounting, financial aid processing, and cash collections, also contributed to the significant increase in salaries and benefits costs. The increase in corporate salaries and benefits costs was offset, in part, by a decrease in outside counsel legal fees, primarily attributable to a reduction in costs related to our class action lawsuits, the ongoing SEC investigation and the development of our internal legal department.

Income From Operations and Operating Margin Percentage

        Income from operations increased $77.5 million, or 27%, from $291.6 million during 2004 to $369.1 million during 2005. Our operating margin percentage increased from 16.9% during 2004 to 18.1% during 2005. The increase in income from operations is primarily attributable to the operating

63



margin growth of our OEG segment during 2005, offset, in-part, by a slight decrease in operating margin at our CSU segment, primarily attributable to the decline in student population discussed above, and an increase in net unallocated corporate and other costs. The increase in our consolidated operating margin percentage is primarily attributable to the disproportionate growth of our OEG segment, which traditionally has operated at a higher margin level than has our CSU segment.

Interest Income

        Interest income increased $9.0 million, from $3.0 million during 2004 to $12.0 million during 2005, primarily as a result of an increase in average invested cash balances. Also contributing to the increase, during the second quarter of 2005, we began investing a portion of our excess cash balances in available-for-sale investments that generally return investment yields in excess of the yields on cash equivalent securities, in which we have historically invested our excess cash.

Provision for Income Taxes

        Provision for income taxes increased $27.3 million, or 24%, from $116.1 million during 2004 to $143.3 million during 2005. This increase is primarily a result of an increase in pretax income from continuing operations during 2005 of $87.6 million, offset, in part, by a reduction of our effective income tax rate from 39.25% during 2004 to 37.40% during 2005. The decrease in our effective tax rate is attributable to the impact of various tax planning strategies, favorable changes in the proportionate distribution of our total pretax income among the tax jurisdictions in which we operate, and an increase in tax exempt interest earned on invested cash balances. Future changes in the proportionate distribution of our total pretax income among the tax jurisdictions in which we operate may further impact our effective income tax rate.

Loss from Discontinued Operations

        During 2005, we recorded a loss from discontinued operations of $6.1 million. The loss from discontinued operations is attributable to a $5.1 million loss recognized upon the disposition of the net assets of our IADT—Montreal campus that was designated for "teach-out" in January 2005. The remainder of the loss from discontinued operations is attributable to a $1.0 million loss related to our IADT—Ottawa campus, which completed all teach-out activities during the first quarter of 2005. See Note 19 "Discontinued Operations" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of discontinued operations.

Net Income

        Net income increased $54.3 million, or 30%, from $179.6 million during 2004 to $233.9 million during 2005, due to the cumulative effect of the factors discussed above.

64


Year Ended December 31, 2004 Compared to Year Ended December 31, 2003

Revenue

        Colleges, Schools and Universities Segment Revenue.    CSU segment tuition and registration fee revenue increased $293.8 million, or 31%, from $942.7 million during 2003 to $1.236 billion during 2004. The CSU segment tuition and registration fee revenue increase is primarily attributable to tuition and registration fee revenue generated by CSU segment schools acquired or opened after January 1, 2003 (Acquired Schools: the INSEEC Group, Whitman Education Group, Western School of Health and Business; Start-up Branch Campuses: LCB—Las Vegas, IADT—Detroit, AIU—Houston, LCB—Atlanta, IADT—Las Vegas, IADT—Nashville, and LCB—Miami, collectively referred to as "CSU segment new schools").

        The increase in CSU segment tuition and registration fee revenue is also attributable, in part, to tuition and registration fee revenue generated by CSU segment schools acquired or opened on or prior to January 1, 2003, collectively referred to as "CSU segment same schools." The CSU segment same-school tuition and registration fee revenue increase is attributable to an increase in average CSU segment same-school student population during 2004 relative to average CSU segment same-school student population during 2003, price increases at most of our CSU segment schools during 2004, and a shift in student enrollment mix.

        CSU segment other revenue increased $14.1 million, or 16%, from $86.5 million during 2003 to $100.6 million during 2004. The increase in CSU segment other revenue is primarily attributable to other revenue generated by CSU segment new schools and, in part, an increase in CSU segment same-school other revenue resulting from the student population increase discussed above.

        Online Education Group Segment Revenue.    OEG segment tuition and registration fee revenue increased $236.1 million, or 174%, from $135.9 million during 2003 to $372.0 million during 2004. The OEG segment tuition and registration fee revenue growth is primarily attributable to an increase in average student population at our schools' online campuses during 2004 as compared to average student population at our schools' online campuses during 2003. The increase in our schools' online campuses' student population is primarily attributable to the continued growth of the online education market and our schools' online campuses' continued penetration into that expanded market through increased investment in marketing activities and recruiting efforts and an expansion of program offerings.

        Also, during the first quarter of 2004, our schools' online campuses began billing new students a single charge that covers tuition and required program materials, such as textbooks and supplies, which is included as a component of tuition and registration fee revenue. Previously, these required program materials were billed separately from tuition, and the related revenue was recorded as a component of other revenue. The impact of this change has resulted in the disproportionate growth of 2004 OEG segment tuition and registration fee revenue relative to the 2004 growth of OEG segment other revenue, as discussed below.

        OEG segment other revenue increased $6.6 million, or 51%, from $12.9 million during 2003 to $19.5 million during 2004. This increase in OEG segment other revenue is primarily attributable to the increase in our schools' online campuses' average student population discussed above, offset, in part, by the change in tuition and program material billing method discussed above.

Educational Services and Facilities Expense

        Educational services and facilities expense increased $143.6 million, or 35%, from $413.5 million during 2003 to $557.1 million during 2004. The increase in educational services and facilities expense is primarily attributable to an overall increase in academic and occupancy costs at our CSU segment schools.

65



        The increase in CSU segment educational services and facilities expense represents approximately 29 percentage points of the total 35% increase in educational services and facilities expense. This increase is primarily attributable to educational services and facilities expenses incurred by CSU segment same-schools and represents increases in variable expenses necessary to support the increase in same-school student population mentioned above, additional student service activities designed to improve retention, an increase in costs associated with curriculum development activities, and increased occupancy costs related to facility upgrades and expansions during 2003 and 2004. A significant portion of this increase is also attributable to educational services and facilities expense incurred by CSU segment new schools.

        The increase in OEG segment educational services and facilities expense represents approximately five percentage points of the total 35% increase in educational services and facilities expense. This increase is primarily attributable to increases in variable expenses necessary to support the increase in our schools' online campuses' student population mentioned above, additional student service activities designed to improve retention, an increase in costs associated with curriculum development activities, and increased occupancy costs associated with facility expansions in support of our schools' online campuses during 2003 and 2004.

General and Administrative Expense

        General and administrative expense increased $287.1 million, or 54%, from $535.3 million during 2003 to $822.4 million during 2004. This increase is primarily attributable to an increase in advertising, marketing, and admissions costs and bad debt expense at our OEG segment online campuses and CSU segment schools.

        The increase in 2004 CSU segment general and administrative expense represents approximately 29 percentage points of the total 54% increase in 2004 general and administrative expense. This increase is primarily attributable to an increase in advertising, marketing, and admissions costs incurred by our CSU segment schools in support of increased student lead, enrollment, and start volume. The increase is also attributable to increased bad debt expense, as discussed below, and other administrative costs incurred by our CSU segment same schools necessary to support the increase in student population mentioned above. A significant portion of this increase is attributable to general and administrative expense incurred by CSU segment new schools.

        CSU segment bad debt expense, included in general and administrative expenses, increased approximately $33.1 million, or 69%, from $48.3 million during 2003 to $81.4 million during 2004. During the fourth quarter of 2004, we recorded a non-cash, pre-tax charge for a change in accounting estimate of our allowance for doubtful accounts of approximately $18.9 million, which was primarily related to our CSU segment schools. Also contributing to the increase in CSU segment bad debt expense during the year was higher rates of attrition experienced at certain of our CSU segment schools, due to, among other things, the introduction by our CSU segment schools during 2003 of tougher credit standards and more aggressive cash collection practices.

        The increase in OEG segment general and administrative expense represents approximately 24 percentage points of the total 54% increase in general and administrative expense. As discussed above, the increase in OEG segment general and administrative expense is primarily attributable to an increase in advertising, marketing, and admissions costs incurred by our schools' online campuses in support of increased student lead, enrollment, and start volume. The increase is also attributable to increased bad debt expense, as discussed below, and other administrative costs incurred by our schools' online campuses necessary to support the increase in online student population discussed above. The increase in OEG segment general and administrative expense during 2004 was also attributable to investments in a new admission facility located in Portland, Oregon that supports our AIU Online campus.

66



        Contributing to the increase in OEG segment general and administrative expense was an increase in bad debt expense at our schools' online campuses of approximately $18.9 million, from $6.2 million during 2003 to $25.1 million during 2004. The increase in OEG segment bad debt expense is primarily attributable to a decline in our schools' online campuses' student retention during the year, resulting in a shift in the relative distribution of student receivable balances from in-school student receivables to out-of-school student receivables. Also contributing to the increase was a portion of the $18.9 million non-cash, pre-tax charge for a change in accounting estimate for allowance for doubtful accounts that was attributable to our schools' online campuses.

        The increase in net unallocated corporate and other general and administrative expense represents approximately one percentage points of the total 54% increase in general and administrative expense. The increase in net unallocated corporate and other general and administrative expense is primarily attributable to 2004 expenses of approximately $11.0 million related to legal and other professional services fees incurred in connection with the ongoing SEC investigation, the investigation conducted by the Special Committee of our Board of Directors, and the shareholder class action and derivative lawsuits.

Income From Operations and Operating Margin Percentage

        Income from operations increased $106.3 million, or 57%, from $185.3 million during 2003 to $291.6 million during 2004. Our operating margin percentage increased from 15.7% during 2003 to 16.9% during 2004. The increase in income from operations is primarily attributable to the operating margin growth of our OEG and CSU segments during 2004, offset, in-part, by an increase in net unallocated corporate and other costs. The increase in our consolidated operating margin percentage is primarily attributable to the disproportionate growth of our OEG segment, which traditionally has operated at a higher margin level than has our CSU segment.

Provision for Income Taxes

        Provision for income taxes increased $39.7 million, or 52%, from $76.3 million during 2003 to $116.1 million during 2004. This increase is primarily attributable to an increase in pretax income during 2004 of $106.6 million, offset, in part, by a reduction of our effective income tax rate from 40.35% during 2003 to 39.25% during 2004. The decrease in our effective tax rate during 2004 is attributable to the impact of various tax planning strategies and favorable changes during 2004 in the proportionate distribution of our total pretax income among the tax jurisdictions in which we operate.

Net Income

        Net income increased $66.8 million, or 59%, from $112.8 million during 2003 to $179.6 million during 2004, due to the cumulative effect of the factors discussed above.

LIQUIDITY, FINANCIAL POSITION, AND CAPITAL RESOURCES

        As of December 31, 2005, cash, cash equivalents, and investments totaled $404.4 million. Our cash flows from operations have historically been adequate to fulfill our liquidity requirements. We finance our operating activities and our organic growth primarily through cash generated from operations. We finance acquisitions primarily through funding from a combination of equity issuances, credit facility borrowings, and cash generated from operations. We anticipate that we will be able to satisfy the cash requirements associated with, among other things, our working capital needs, capital expenditures and commitments through at least the next 12 months primarily with cash generated by operations, existing cash balances and, if necessary, borrowings under our existing credit agreements.

        The ED requires that Title IV Program funds collected in advance of student billings be kept in a separate cash account until students are billed for the portion of their program related to those

67



Title IV Program funds collected. These restricted cash balances generally remain in these separate accounts for an average of 60 to 75 days from receipt. We do not recognize restricted cash balances on our consolidated balance sheets until all restrictions have lapsed with respect to those balances. As of December 31, 2005 and 2004, the amount of restricted cash balances kept in separate cash accounts was not significant. Restrictions on these cash balances have not affected, nor do we believe that such restrictions will affect, our ability to fund our daily operations.

        As previously disclosed, the ED notified us in June 2005 that it is reviewing our previously announced restated consolidated financial statements and our annual compliance audit opinions for the years 2000 through 2003. At the same time, the ED also advised us that it is evaluating pending program reviews that have taken place at certain of our schools, which are all included in our CSU segment. The ED has indicated that until these matters are addressed to its satisfaction, it will not approve any new applications by us for pre-acquisition review or change of ownership. The ED has further advised us that during this period, it will not approve applications for any additional branch campuses, which the ED refers to generally in its regulations as "additional locations."

        In February 2006, we received a letter from the ED notifying us that it is reviewing our 2004 compliance audit opinions and that the general restrictions imposed pursuant to its letter to us in June 2005 will remain in place as it continues its review. We cannot predict what effect, if any, the ED's restrictions may have on our future cash requirements, liquidity, or financial position.

Sources of Cash

Cash Flows from Operating Activities

        During 2005, net cash flows provided by operating activities totaled $378.2 million compared to net cash flows provided by operating activities during 2004 of $376.2 million. Our primary source of cash flows from operating activities is tuition collected from our students. Our students finance tuition costs through the use of a variety of funding sources, including, among others, federal loan and grant programs, state grant programs, private loans and grants, private and institutional scholarships, and cash payments. The following table summarizes our U.S. schools' cash receipts from tuition payments by fund source as a percentage of total tuition payments received for the years ended December 31,

68



2005, 2004, and 2003. The percentages reflected therein were determined based upon each U.S. school's cash receipts for the 12-month period ended December 31.

 
  For the Year Ended December 31,
 
 
  2005
  2004
  2003
 
Title IV Program funding              
Stafford loans   40.5 % 38.9 % 37.7 %
Grants   9.5 % 10.0 % 10.4 %
PLUS loans   8.6 % 8.9 % 9.8 %
   
 
 
 
  Total Title IV Program funding   58.6 % 57.8 % 57.9 %
   
 
 
 

Private loans

 

 

 

 

 

 

 
Non-recourse loans   20.7 % 21.6 % 23.3 %
Sallie Mae and Wachovia recourse loans   2.0 % 2.2 % 0.7 %
Stillwater recourse loans   0.6 % 0.5 %  
   
 
 
 
  Total private loans   23.3   24.3 % 24.0 %
   
 
 
 

Scholarships, grants and other

 

2.9

%

3.5

%

4.4

%

Cash payments

 

15.2

%

14.4

%

13.7

%
   
 
 
 

Total tuition receipts

 

100

%

100

%

100

%
   
 
 
 

        The total Title IV Program funding as a percentage of total tuition receipts reflected above was not computed on the same basis on which our 90-10 Rule ratios were computed. In accordance with applicable regulations, certain tuition receipts included in the totals above were excluded from our 90-10 Rule ratio calculations.

        For a detailed discussion of Title IV Program funding and alternative private loan funding sources for our students, see "Student Financial Aid and the Regulation of the Postsecondary Education Industry" and "Alternative Student Financial Aid Sources" in Item 1 "Business" in Part I of this Annual Report on Form 10-K.

Cash Flows from Investing Activities

        During December 31, 2005, cash flows from the sale of investments totaled $648.1 million. As of December 31, 2005, we held investments in municipal auction rate securities that generally have stated terms to maturity of greater than one year. However, we classify such investments as current on our consolidated balance sheets because we are generally able to divest our holdings in municipal auction rate securities at auction 30 days from our purchase date. Our other investment balances as of December 31, 2005, are also classified as current on our consolidated balance sheet, as these investments are deemed highly liquid, and, if necessary, we are able to divest our holdings in these investments to fund our current operating activities.

Cash Flows from Financing Activities

        As of December 31, 2005, we had outstanding under our $200.0 million U.S. Credit Agreement revolving loans totaling approximately $13.6 million and letters of credit totaling approximately $17.7 million. The availability under our U.S. Credit Agreement as of December 31, 2005, was $168.7 million. As of December 31, 2005, we had no outstanding borrowings under our $10.0 million (USD) Canadian Credit Agreement. See Note 12 "Debit and Credit Agreements" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for additional discussion of our outstanding indebtedness and credit agreements.

69



Uses of Cash

Cash Used in Operating Activities

        Our primary uses of cash to support our operating activities include, among other things, cash paid to employees for services, to vendors for products and services, to lessors for rents and operating costs related to leased facilities, to suppliers for textbooks and other school supplies, and to federal, state, and provincial governments for income and other taxes.

        Although we anticipate that we will be able to satisfy the cash requirements for working capital needs, capital expenditures, and commitments through at least the next 12 months primarily with cash generated by our operations, existing cash balances and, if necessary, borrowings under our existing credit agreements, we are not able to assess the effect of loss contingencies on future cash requirements and liquidity. See Note 14 "Commitments and Contingencies" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for additional discussion of these items.

Cash Used in Investing Activities

        During 2005, cash used in investing activities totaled $399.5 million, a $257.8 million or 182% increase relative to cash flows used in investing activities during 2004 of $141.8 million.

        Capital Expenditures.    Capital expenditures decreased $17.2 million, or 12%, from $142.8 million during 2004 to $125.6 million during 2005. Capital expenditures during 2005, which represented approximately 6.2% of 2005 total revenue, included, among other things, investments in leasehold improvements in connection with new and expanded facilities, capital equipment purchases necessitated by increasing student population, and investments made in connection with expansion projects and information system improvements in support of current and anticipated growth. We expect 2006 capital expenditures as a percentage of revenue to remain at a level consistent with 2005 capital expenditures as a percentage of revenue. We finance capital expenditures primarily with cash generated from operations.

        Purchases of Investments.    During 2005, cash used to purchase investments in available-for-sale securities totaled $920.2 million.

Cash Used in Financing Activities

        During 2005, cash used in financing activities totaled $189.7 million, a $138.8 million or 273% increase relative to cash used in financing activities during 2004 of $50.9 million.

        Repurchases of Shares.    In July 2005, our Board of Directors authorized us to use up to $300.0 million for the repurchase of shares of our outstanding common stock. Pursuant to this stock repurchase program, we may repurchase shares of our outstanding common stock on the open market or in private transactions from time to time, depending on certain factors including market conditions and corporate and regulatory requirements. The stock repurchase program does not have an expiration date and may be suspended or discontinued at any time. During the year ended December 31, 2005, we repurchased approximately 5.3 million shares of our common stock for approximately $200.2 million at an average price of approximately $37.97 per share.

        In February 2006, our Board of Directors authorized us to use an additional $200.2 million for the repurchase of shares of our outstanding common stock under the stock repurchase program. This authorization is in addition to the $99.8 million still available under our $300.0 million stock repurchase program authorization in July 2005.

        Stock repurchased during 2005 reduced 2005 diluted weighted average shares outstanding by approximately 2.0 million shares and increased 2005 net income per diluted share by approximately $0.03. The effect of the share repurchases on net income per diluted share was estimated based on the aforementioned reduction in diluted weighted average shares outstanding and estimated interest income forgone.

70


Contractual Obligations

        As of December 31, 2005, minimum future cash payments due under contractual obligations, including, among others, our credit agreements, non-cancelable operating and capital lease agreements, and other long-term arrangements, were as follows (in thousands):

 
  2006
  2007
  2008
  2009
  2010
  2011 & Thereafter
  Total
Revolving loans   $   $ 13,623   $   $   $   $   $ 13,623
Operating lease obligations     121,317     120,030     114,460     108,289     103,288     614,502     1,181,886
Capital lease obligations     823     951     517     388     388     969     4,036
Other long-term debt     4     17                     21
   
 
 
 
 
 
 
Total contractual cash obligations   $ 122,144   $ 134,621   $ 114,977   $ 108,677   $ 103,676   $ 615,471   $ 1,199,566
   
 
 
 
 
 
 

        Revolving Loans.    We have entered into an unsecured credit (the "U.S. Credit Agreement") agreement with a syndicate of financial institutions. Under our U.S. Credit Agreement, we may borrow up to the U.S. dollar equivalent of $200.0 million in U.S. dollars and various foreign currencies under a revolving credit facility and obtain up to the U.S. dollar equivalent of $100.0 million in standby letters of credit in U.S. dollars and various foreign currencies. Outstanding letters of credit were approximately $17.7 million as of December 31, 2005, and reduced the availability of borrowings under the revolving credit facility, but are not included in the table above. Subject to the satisfaction of certain conditions precedent under the U.S. Credit Agreement, we may prepay outstanding loans under the U.S. Credit Agreement at any time without penalty. The stated maturity of our U.S. Credit Agreement is December 19, 2007.

        Our domestic subsidiaries have jointly and severally guaranteed repayment of our obligations under the U.S. Credit Agreement. Under the U.S. Credit Agreement, we are limited in our ability to take certain actions, including, among other things, consummating certain acquisitions or mergers, paying cash dividends, selling or disposing of certain assets or subsidiaries, incurring other debt in excess of specified amounts, prepaying other debt, and making certain investments. We are also required to satisfy certain financial covenants on a periodic basis, including the maintenance of a maximum consolidated leverage ratio of 2.00:1, a minimum fixed charge coverage ratio of 1.50:1, a minimum level of consolidated net worth, and a minimum annual consolidated ED financial responsibility composite score of 1.50. As of December 31, 2005, we were in compliance with the covenants of our U.S. Credit Agreement.

        Our Canadian subsidiaries have entered into an unsecured credit agreement (the "Canadian Credit Agreement") with a syndicate of financial institutions. Under our Canadian Credit Agreement, our Canadian subsidiaries may borrow up to the U.S. dollar equivalent of 10.0 million in Canadian dollars under a revolving credit facility. Subject to the satisfaction of certain conditions precedent under the Canadian Credit Agreement, we may prepay outstanding loans under the Canadian Credit Agreement at any time without penalty. The stated maturity of our Canadian Credit Agreement is December 19, 2007.

        See Note 12 "Debt and Credit Agreements" of the notes to our consolidated financial statements in Part IV, Item 15 of this Annual Report on Form 10-K for a detailed discussion of our outstanding indebtedness and credit agreements.

        Operating Lease Obligations.    We lease most of our administrative and educational facilities and equipment under non-cancelable operating leases expiring at various dates through 2028. Lease terms generally range from five to 10 years with one to two renewal options for extended terms. The amounts

71



included in the table above represent future minimum lease payments for non-cancelable operating leases.

        Capital Lease Obligations.    We finance the acquisition of certain equipment through capital lease agreements and have assumed capital lease obligations in connection with certain acquisitions. As of December 31, 2005, the principal balance of outstanding capital lease obligations was approximately $3.3 million.

        Off-Balance Sheet Arrangements.    As of December 31, 2005, we were not a party to any off-balance sheet financing or contingent payment arrangements, nor do we have any unconsolidated subsidiaries.

Changes in Financial Position—December 31, 2005 compared December 31, 2004

        Selected consolidated balance sheet account changes from December 31, 2005, to December 31, 2004, were as follows:

 
  As of December 31,
 
 
  2005
  2004
  % Change
 
 
  (Dollars in thousands)

 
Assets                
Current assets:                
  Cash and cash equivalents   $ 132,308   349,348   (62 )%
  Investments     272,093     100 %
   
 
     
    Total cash and cash equivalents and investments     404,401   349,348   16 %
   
 
     
 
Student receivables, gross

 

 

121,286

 

147,118

 

(18

)%
  Allowance for doubtful accounts     (44,839 ) (61,136 ) 27 %
   
 
     
    Student receivables, net     76,447   85,982   (11 )%
   
 
     
 
Prepaid expenses

 

 

37,412

 

29,649

 

26

%
  Other current assets     31,067   5,980   420 %

Liabilities

 

 

 

 

 

 

 

 
Current liabilities:                
  Accounts payable     28,627   38,263   (25 )%
  Accrued income taxes     23,509   4,663   404 %
  Accrued other expenses     82,513   70,520   17 %
  Deferred tuition revenue     152,007   166,743   (9 )%

Long-term liabilities

 

 

 

 

 

 

 

 
  Deferred rent obligations     89,680   15,293   486 %

Stockholders' equity

 

 

 

 

 

 

 

 
  Treasury stock     (200,158 )   (100 )%

        Cash and Cash Equivalents and Investments.    The increase in total cash and cash equivalents and investments is primarily attributable to cash flows generated from operations during the year, offset, in part, by cash of $200.2 million used during 2005 to repurchase approximately 5.3 million shares of our common stock at an average price of approximately $37.97 per share in connection with our stock repurchase program.

        Student Receivables.    The decrease in net student receivables is primarily attributable to improvements in our financial aid packaging and cash collections processes during the year due, in part, to the centralization of these functions for certain of our schools during 2005.

72



        Our allowance for doubtful accounts as a percentage of gross student receivables and quarterly days sales outstanding ("DSO") as of December 31, 2005, 2004, and 2003, were as follows:

 
  As of December 31,
 
 
  2005
  2004
  2003
 
Allowance for doubtful accounts as a percentage of gross student receivables   37.0 % 41.6 % 31.4 %
Quarterly days sales outstanding (in days)   14   17   28  

        We calculate DSO by dividing net receivables, including both student receivables and other receivables, by quarterly average daily revenue. Quarterly average daily revenue is computed by dividing total quarterly revenue by the total number of days in the quarter.

        The decreases in both DSO and our allowance as a percentage of gross student receivables from December 31, 2004, to December 31, 2005, are primarily attributable to improvements in financial aid packaging and strong cash collections during the year, as previously discussed.

        Prepaid Expenses.    The increase in prepaid expenses is primarily attributable to increases in (a) prepaid rents related to lease agreements signed during the year, (b) prepaid software maintenance costs related to corporate information technology upgrades implemented during 2005, and (c) prepaid insurance premium balances primarily related to insurance rate increases experienced during the year.

        Other Current Assets.    The increase in other current assets is primarily attributable to an increase in tenant improvement allowance receivables related to lease agreements entered into during the year. See the "Deferred Rent Obligations" discussion below for further information.

        Accounts Payable.    The decrease in accounts payable is primarily attributable to the implementation of an automated voucher approval and payment process at certain of our schools and the corporate office during 2005, which resulted in a significant reduction in our balance of past due invoices.

        Accrued Income Taxes.    The increase in accrued income taxes is primarily attributable to the overall increase in pretax income during the year, offset, in part, by federal and state income tax payments made during the year and the reduction in our effective tax rate from 39.25% during 2004 to 37.40% during 2005.

        Accrued Other Expenses.    The increase in other accrued expenses is primarily attributable to (a) an increase in accrued advertising and production costs during the year, which is primarily due to increased advertising and marketing spending by our schools' online campuses in support of continued growth initiatives and in anticipation of the February 2006 opening of Stonecliffe College Online, and (b) an increase in accrued insurance premiums for healthcare and certain liability insurance coverage.

        Deferred Tuition Revenue.    The decrease in deferred tuition revenue is primarily attributable to a change in the timing of disbursements of recourse and non-recourse loan funds at certain of our Culinary division schools. The disbursement of recourse and non-recourse loan funds for these schools' students is now more closely aligned with the timing of scheduled billings. The decline in overall CSU segment student population from December 31, 2004, to December 31, 2005, also contributed to the decrease in deferred tuition revenue at many of our CSU segment schools. These decreases were offset, in part, by an increase in deferred tuition revenue for our OEG segment campuses due to population increases from December 31, 2004, to December 31, 2005.

        Deferred Rent Obligations.    On February 7, 2005, the SEC issued explanatory guidance expressing its views regarding certain operating lease-related accounting issues and the applicable accounting principles generally accepted in the U.S. ("GAAP"). Subsequently, we initiated a review of our lease-

73



related accounting and determined that our previous method of accounting for tenant improvement allowances was not in accordance with GAAP. We had historically accounted for tenant improvement allowances as reductions of the related leasehold improvement asset on our consolidated balance sheets. In accordance with GAAP, tenant improvement allowances should be recorded as a leasehold improvement asset and deferred rent obligation on our consolidated balance sheets. During 2005, we recorded leasehold improvements and deferred rent obligations on our consolidated balance sheets in recognition of tenant improvement allowances due or received from lessors. These accounting changes, had they been adopted in prior periods, would not have had a significant effect on prior period consolidated operating results, financial position, or cash flows. The increase in our consolidated deferred rent obligations also reflects normal increases in deferred rent obligations associated with lease arrangements with escalating rent payments.

        Treasury Stock.    As discussed above, during 2005 we repurchased approximately 5.3 million shares of our common stock for approximately $200.2 million at an average price of approximately $37.97 per share.


ITEM 7A.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

        We are exposed to financial market risks, including changes in interest rates and foreign currency exchange rates. We use various techniques to manage our market risk, including, from time to time, the use of derivative financial instruments. We do not use derivative financial instruments for speculative purposes.

Interest Rate Exposure

        Our borrowings under our credit agreements bear annual interest at variable rates tied to the prime rate and the Eurocurrency rate. The outstanding borrowings under these credit agreements were $13.6 million and $18.1 million as of December 31, 2005 and 2004, respectively.

        During the first quarter of 2003, we entered into an interest rate swap agreement to effectively fix at 2.88% the variable portion of the rate of interest payable by us on a certain portion of €13.5 million borrowed during 2003 under our U.S. Credit Agreement to finance our acquisition of the INSEEC Group. Approximately €2.0 million of this borrowing was repaid during the second quarter of 2004. The notional amount of the interest rate swap, originally €12.0 million, decreased to €1.5 million on December 28, 2005, and the agreement will expire on March 28, 2006. The impact of the interest rate swap agreement on our consolidated financial position, results of operations, and cash flows during the year ended December 31, 2005, 2004, and 2003, was not significant.

        The weighted average interest rate of borrowings under our credit agreements, including the effect on interest expense of the interest rate swap agreement, was 2.95% and 3.74% as of December 31, 2005 and 2004, respectively.

        In addition, we had capital lease obligations totaling $3.3 million and $4.7 million as of December 31, 2005 and 2004, respectively, bearing interest at a weighted average rate of 6.80% and 7.70%, respectively.

        We estimate that the book value of our investments, debt instruments and related derivative financial instruments approximated their fair values as of December 31, 2005 and 2004. We believe that the exposure of our consolidated financial position and results of operations and cash flows to adverse changes in interest rates is not significant.

Foreign Currency Exposure

        We are subject to foreign currency exchange exposures arising from current and anticipated transactions denominated in currencies other than the U.S. dollar, and from the translation of foreign

74



currency balance sheet accounts into U.S. dollar balance sheet accounts. Specifically, we are subject to risks associated with fluctuations in the value of the Euro, the Canadian dollar, and the British pound vis-à-vis the U.S. dollar. Our investment in our foreign operations as of December 31, 2005, was not significant, and the book values of the assets and liabilities of such foreign operations as of December 31, 2005, approximated their fair values.

        In addition, as of December 31, 2005, we had borrowings outstanding under our U.S. Credit Agreement of $13.6 million denominated as €11.5 million.

        We believe that the exposure of our consolidated financial position and results of operations and cash flows to adverse changes in foreign currency exchange rates is not significant.


ITEM 8.    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

        The consolidated financial statements and the accompanying notes thereto are included elsewhere in this Annual Report on Form 10-K, as indicated below. The consolidated balance sheets are as of December 31, 2005 and 2004, and the consolidated statements of income, stockholders' equity, and cash flows are for each of the years ended December 31, 2005, 2004, and 2003.

        Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting, page F-1.

        Report of Independent Registered Public Accounting Firm, page F-3.

        Consolidated Balance Sheets as of December 31, 2005 and 2004, page F-4.

        Consolidated Statements of Income for the Years Ended December 31, 2005, 2004, and 2003, page F-5.

        Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 2005, 2004, 2003, page F-6.

        Consolidated Statements of Cash Flows for the Years Ended December 31, 2005, 2004, and 2003, page F-7.

        Notes to Consolidated Financial Statements, page F-8.

75



ITEM 9.    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

        None.


ITEM 9A.    CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

        We completed an evaluation as of the end of the period covered by this Report under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13a-15(b) of the Securities Exchange Act of 1934, as amended. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of December 31, 2005, our disclosure controls and procedures were effective to provide reasonable assurance that (i) the information required to be disclosed by us in this Report was recorded, processed, summarized, and reported within the time periods specified in the SEC's rules and forms and (ii) information required to be disclosed by us in our reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control over Financial Reporting

        There were no changes in our internal control over financial reporting that occurred during the quarter ended December 31, 2005, that have materially affected, or are reasonably likely to materially effect, our internal control over financial reporting.

Scope of Management's Report on Internal Control over Financial Reporting

        With the participation of our Chief Executive Officer and Chief Financial Officer, our management carried out an evaluation and assessed the effectiveness of our internal control over financial reporting as of December 31, 2005. The framework on which such evaluation was based is contained in the report entitled "Internal Control—Integrated Framework" issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO Report).

        An internal control significant deficiency is a control deficiency, or combination of control deficiencies, that adversely affects a company's ability to initiate, authorize, record, process, or report external financial data reliably in accordance with generally accepted accounting principles such that there is more than a remote likelihood that a misstatement of the company's annual or interim financial statements that is more than inconsequential will not be prevented or detected. An internal control material weakness is a significant deficiency, or combination of significant deficiencies, that results in a more than remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected.

Inherent Limitations on the Effectiveness of Controls

        Our management does not expect that our disclosure controls and procedures or our internal controls will prevent or detect all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are 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. Because of the inherent limitations in a cost-effective control system, no evaluation of controls can provide absolute

76



assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, within our company have been detected.

        These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of controls effectiveness to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures.

Management's Report on Internal Control over Financial Reporting

        Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) under the Exchange Act to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of the financial statements for external purposes in accordance with generally accepted accounting principles.

        Based upon the evaluation under the framework contained in the COSO Report, management concluded that, as of December 31, 2005, our internal control over financial reporting was effective.

        Ernst & Young LLP, the Company's independent registered public accounting firm, has issued an attestation report on management's assessment of the effectiveness of our internal control over financial reporting. This attestation report is included on page F-1 of this Annual Report on Form 10-K.


ITEM 9B.    OTHER INFORMATION

        None.

77



PART III

ITEM 10.    DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Directors and Executive Officers

        The information required by this item is incorporated herein by reference to our definitive Proxy Statement to be filed in connection with our 2006 Annual Meeting of Stockholders.

Code of Ethics

        We have adopted a Code of Ethics that applies to all of our directors, executive officers, and senior financial officers (including our chief executive officer, chief financial officer, chief accounting officer, controller, and any person performing similar functions). The Code of Ethics is available on our website at www.careered.com under the caption "Investor Relations."


ITEM 11.    EXECUTIVE COMPENSATION

        The information required by this item is incorporated herein by reference to our definitive Proxy Statement to be filed in connection with our 2006 Annual Meeting of Stockholders.


ITEM 12.    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

        Certain of the information required by this item is incorporated herein by reference to our definitive Proxy Statement to be filed in connection with our 2006 Annual Meeting of Stockholders.

        The following table provides information as of December 31, 2005, with respect to shares of our common stock that may be issued under our existing equity compensation plans:

EQUITY COMPENSATION PLAN INFORMATION

 
  (a)
  (b)
  (c)
 
Plan Category

  Number of shares to be issued upon exercise of outstanding options
  Weighted-average exercise price of outstanding options
  Number of shares remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a))
 
Equity compensation plans approved by shareholders   9,463,588 (1) $ 25.55   2,994,563 (2)

Equity compensation plans not approved by shareholders

 

200,000

(3)

$

19.60

 


 
   
       
 
  Total   9,663,588   $ 25.43   2,994,563  
   
       
 

(1)
Includes outstanding options to purchase shares of our common stock under the Career Education Corporation 1995 Stock Option Plan, the Career Education Corporation 1995 Employee Incentive Compensation Plan, and the Career Education Corporation 1998 Non-Employee Directors' Stock Option Plan.

(2)
Includes shares available for future issuances under the Career Education Corporation 1995 Stock Option Plan, the Career Education Corporation 1998 Employee Incentive Compensation Plan, the Career Education Corporation 1998 Non-Employee Directors' Stock Option Plan, and the Career

78


    Education Corporation 1998 Employee Stock Purchase Plan; excludes securities reflected in column (a). In addition to stock options, the Career Education Corporation 1998 Employee Incentive Compensation Plan provides for the issuance of stock appreciation rights, restricted stock, deferred stock, stock, dividend equivalents, other stock-based awards, performance awards, or cash incentive awards. As of December 31, 2005, 2,735,891 shares remain available under the Career Education Corporation 1998 Employee Incentive Compensation Plan for issuance of stock appreciation rights, restricted stock, deferred stock, stock, dividend equivalents, other stock-based awards, performance awards, or cash incentive awards.

(3)
We have an agreement with Le Cordon Bleu Limited that gives us the exclusive right to use the Le Cordon Bleu name in the United States and Canada. Under this agreement, we pay Le Cordon Bleu Limited royalties based on eligible culinary revenues collected from students enrolled in Le Cordon Bleu culinary programs at our schools. On August 30, 2002, we issued an option to purchase 200,000 shares of our common stock to Le Cordon Bleu Limited in connection with an amendment to this license agreement. The option was immediately exercisable at an exercise price per share of $19.60 and expires on August 29, 2012. The exercise price of the option represents 90 percent of the average closing sale price of our common stock during the five trading days ended August 29, 2002. The option was issued pursuant to an exemption under Section 4(2) of the Securities Act of 1933. The issuance was made without general solicitation or advertising.


ITEM 13.    CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

        The information required by this item is incorporated herein by reference to our definitive Proxy Statement to be filed in connection with our 2006 Annual Meeting of Stockholders.


ITEM 14.    PRINCIPAL ACCOUNTING FEES AND SERVICES

        The information required by this item is incorporated herein by reference to our definitive Proxy Statement to be filed in connection with our 2006 Annual Meeting of Stockholders.

79



PART IV

ITEM 15.    EXHIBITS, FINANCIAL STATEMENT SCHEDULES

(a)
The following documents are filed as part of this Form 10-K or incorporated by reference as set forth below:

1. and 2.    Financial Statements of Career Education Corporation and Its Subsidiaries.

    Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting, page F-1.

    Report of Independent Registered Public Accounting Firm, page F-3.

    Consolidated Balance Sheets as of December 31, 2005 and 2004, page F-4.

    Consolidated Statements of Income for the Years Ended December 31, 2005, 2004, and 2003, page F-5.

    Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 2005, 2004, 2003, page F-6.

    Consolidated Statements of Cash Flows for the Years Ended December 31, 2005, 2004, and 2003, page F-7.

    Notes to Consolidated Financial Statements, page F-8.

3.
Exhibits:

*3.1   Amended and Restated Certificate of Incorporation of the Company, as amended.
**3.2   Second Amended and Restated By-laws of the Company.
3.3   Certificate of Elimination of Series A Preferred Stock of the Company filed with the Secretary of State of Delaware on August 29, 2005.
***4.1   Form of specimen stock certificate representing Common Stock.
****4.2   Credit Agreement dated as of December 19, 2002 among Career Education Corporation, as borrower, Bank of America, N.A., as Administrative Agent, LaSalle Bank National Association and JPMorgan Chase Bank, as Co-Syndication Agents, SunTrust Bank, as documentation Agent, and the other lenders named therein. Schedules and exhibits to this Credit Agreement have not been included herewith, but will be furnished supplementally to the Commission upon request.
*****4.3   Credit Agreement dated as of February 18, 2003 among International Academy of Merchandising & Design (Canada) Ltd., Académie Internationale du Design Inc./International Academy of Design Inc., SoftTrain Institute Inc., Retter Business College Corp., Bank of America, N.A., acting through its Canadian branch, as Canadian Administrative Agent, and the other lenders named therein. Schedules and exhibits to this Credit Agreement have not been included herewith, but will be furnished supplementally to the Commission upon request.
***10.1   Career Education Corporation 1995 Stock Option Plan, as amended.++++
***10.2   Form of Incentive Stock Option Agreement under the Company's 1995 Stock Option Plan.++++
***10.3   Career Education Corporation 1998 Employee Incentive Compensation Plan.++++
***10.4   Form of Incentive Stock Option Agreement under the Company's 1998 Employee Incentive Compensation Plan.++++
***10.5   Career Education Corporation 1998 Non-Employee Directors' Stock Option Plan.++++
***10.6   Form of Non-Employee Director's Option Agreement under the Company's 1998 Non-Employee Directors' Stock Option Plan.++++
     

80


***10.7   Career Education Corporation 1998 Employee Stock Purchase Plan.++++
++10.8   First, Second, Third, Fourth, and Fifth Amendments to Career Education Corporation 1998 Employee Incentive Compensation Plan dated as of July 29, 1998, February 17, 1999, January 24, 2000, April 5, 2002, and May 19, 2003, respectively.++++
+++10.9   Employment Agreement dated as of August 1, 2000, between the Company and John M. Larson.++++
***10.10   Form of Indemnification Agreement for Directors and Executive Officers.++++
***10.11   Form of Management Fee Agreement between the Company and each of its subsidiaries.
***10.12   Form of Tax Sharing Agreement between the Company and each of its subsidiaries.
*10.13   Sixth Amendment to the Career Education Corporation 1998 Employee Incentive Compensation Plan dated as of February 27, 2004.++++
+++10.14   Seventh Amendment to the Career Education Corporation 1998 Employee Incentive Compensation Plan dated as of July 23, 2005.++++
21   Subsidiaries of the Company.
23.1   Consent of Ernst & Young LLP.
31.1   Certification of CEO Pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
31.2   Certification of CFO Pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
32.1   Certification of CEO Pursuant to Section 906 of Sarbanes-Oxley Act of 2002.
32.2   Certification of CFO Pursuant to Section 906 of Sarbanes-Oxley Act of 2002.

*   Incorporated herein by reference to our Quarterly Report on Form 10-Q for the period ended June 30, 2004.
**   Incorporated herein by reference to our Current Report on Form 8-K filed on February 7, 2006.
***   Incorporated herein by reference to our Registration Statement on Form S-1, effective as of January 28, 1998.
****   Incorporated herein by reference to our Current Report on Form 8-K filed on December 20, 2002.
*****   Incorporated herein by reference to our Annual Report on Form 10-K for the year ended December 31, 2002.
+   Incorporated herein by reference to our Definitive Proxy Statement on Schedule 14A filed April 20, 2004.
++   Incorporated herein by reference to our Quarterly Report on Form 10-Q for the period ended September 30, 2000.
+++   Incorporated herein by reference to our Quarterly Report on Form 10-Q for the period ended September 30, 2005.
++++   Management contract or compensatory plan or arrangement required to be filed as an Exhibit on this Form 10-K.

81



SIGNATURES

        Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on the 3rd day of March 2006.

    CAREER EDUCATION CORPORATION

 

 

By:

 

/s/  
PATRICK K. PESCH      
Patrick K. Pesch,
Chief Financial Officer

        Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

Signature
  Title
  Date

 

 

 

 

 
/s/  JOHN M. LARSON      
John M. Larson
  Chairman, President, and Chief Executive Officer (Principal Executive Officer)   March 3, 2006

/s/  
PATRICK K. PESCH      
Patrick K. Pesch

 

Executive Vice President, Chief Financial Officer, Treasurer, and Assistant Secretary (Principal Financial and Accounting Officer)

 

March 3, 2006

/s/  
DENNIS H. CHOOKASZIAN      
Dennis H. Chookaszian

 

Director

 

March 3, 2006

/s/  
ROBERT E. DOWDELL      
Robert E. Dowdell

 

Director

 

March 3, 2006

/s/  
PATRICK W. GROSS      
Patrick W. Gross

 

Director

 

March 3, 2006

/s/  
THOMAS B. LALLY      
Thomas B. Lally

 

Director

 

March 3, 2006

/s/  
STEVEN H. LESNIK      
Steven H. Lesnik

 

Director

 

March 3, 2006

/s/  
KEITH K. OGATA      
Keith K. Ogata

 

Director

 

March 3, 2006

/s/  
LESLIE T. THORNTON      
Leslie T. Thornton

 

Director

 

March 3, 2006

82



REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ON
INTERNAL CONTROL OVER FINANCIAL REPORTING

The Board of Directors and Stockholders of
Career Education Corporation

        We have audited management's assessment, included in the accompanying Management's Report on Internal Control Over Financial Reporting, that Career Education Corporation maintained effective internal control over financial reporting as of December 31, 2005, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Career Education Corporation's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management's assessment and an opinion on the effectiveness of the company's internal control over financial reporting based on our audit.

        We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

        A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.

        Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

        In our opinion, management's assessment that Career Education Corporation maintained effective internal control over financial reporting as of December 31, 2005, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, Career Education Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2005, based on the COSO criteria.

F-1


        We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Career Education Corporation as of December 31, 2005 and 2004, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2005 of Career Education Corporation, and our report dated February 27, 2006, expressed an unqualified opinion thereon.

ERNST & YOUNG LLP
Chicago, Illinois
February 27, 2006

F-2



REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and Stockholders of
Career Education Corporation

        We have audited the accompanying consolidated balance sheets of Career Education Corporation and subsidiaries (the Company) as of December 31, 2005 and 2004, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2005. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

        We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

        In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company at December 31, 2005 and 2004, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2005, in conformity with U.S. generally accepted accounting principles.

        We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Career Education Corporation's internal control over financial reporting as of December 31, 2005, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 27, 2006 expressed an unqualified opinion thereon.

ERNST & YOUNG LLP
Chicago, Illinois
February 27, 2006

F-3



CAREER EDUCATION CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share amounts)

 
  December 31,
 
  2005
  2004
ASSETS
CURRENT ASSETS:            
  Cash and cash equivalents   $ 132,308   $ 349,458
  Investments     272,093    
   
 
  Total cash and cash equivalents and investments     404,401     349,458
  Receivables:            
    Students, net of allowance for doubtful accounts of $44,839 as of December 31, 2005, and $61,136 as of December 31, 2004, respectively     76,447     85,982
    Other, net     5,015     5,378
  Prepaid expenses     37,412     29,649
  Inventories     14,090     17,347
  Deferred income tax assets     10,122     18,806
  Other current assets     31,067     5,980
   
 
    Total current assets     578,554     512,600
PROPERTY AND EQUIPMENT, net     411,144     351,140
GOODWILL     443,584     448,896
INTANGIBLE ASSETS, net     35,286     35,881
OTHER ASSETS     37,537     38,495
   
 
TOTAL ASSETS   $ 1,506,105   $ 1,387,012
   
 
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:            
  Current maturities of long-term debt   $ 627   $ 2,274
  Accounts payable     28,627     38,263
  Accrued expenses:            
    Payroll and related benefits     39,471     38,193
    Income taxes     23,509     4,663
    Other     82,513     70,520
  Deferred tuition revenue     152,007     166,743
   
 
    Total current liabilities     326,754     320,656
   
 
LONG-TERM LIABILITIES:            
  Long-term debt, net of current maturities     16,358     21,591
  Deferred rent obligations     89,680     15,293
  Deferred income tax liabilities     31,212     39,972
  Other long-term liabilities     5,854     4,669
   
 
    Total long-term liabilities     143,104     81,525
   
 
STOCKHOLDERS' EQUITY:            
  Preferred stock, $0.01 par value; 1,000,000 shares authorized; none issued or outstanding   $   $
  Common stock, $0.01 par value; 300,000,000 shares authorized; 103,384,741 and 102,537,406 shares issued, 98,112,741 and 102,537,406 shares outstanding as of December 31, 2005 and 2004, respectively     1,033     1,025
  Additional paid-in capital     591,287     571,192
  Accumulated other comprehensive income     1,989     4,396
  Retained earnings     642,096     408,218
  Cost of 5,272,000 shares in treasury as of December 31, 2005     (200,158 )  
   
 
    Total stockholders' equity     1,036,247     984,831
   
 
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY   $ 1,506,105   $ 1,387,012
   
 

The accompanying notes are an integral part of these consolidated financial statements.

F-4



CAREER EDUCATION CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share amounts)

 
  For the Year Ended December 31,
 
 
  2005
  2004
  2003
 
REVENUE:                    
  Tuition and registration fees   $ 1,939,159   $ 1,608,450   $ 1,078,570  
  Other     95,396     120,082     99,417  
   
 
 
 
    Total revenue     2,034,555     1,728,532     1,177,987  
   
 
 
 
OPERATING EXPENSES:                    
  Educational services and facilities     628,665     557,144     413,515  
  General and administrative     958,098     822,358     535,298  
  Depreciation and amortization     78,720     57,469     43,908  
   
 
 
 
    Total operating expenses     1,665,483     1,436,971     992,721  
   
 
 
 
      Income from operations     369,072     291,561     185,266  
   
 
 
 
OTHER INCOME (EXPENSE):                    
  Interest income     11,967     2,952     1,004  
  Interest expense     (1,841 )   (2,802 )   (1,845 )
  Share of affiliate earnings     5,067     4,248     3,354  
  Miscellaneous income (expense)     (982 )   (290 )   1,334  
   
 
 
 
    Total other income     14,211     4,108     3,847  
   
 
 
 
      Income before provision for income taxes     383,283     295,669     189,113  
PROVISION FOR INCOME TAXES     143,347     116,050     76,309  
   
 
 
 
      Income from continuing operations     239,936     179,619     112,804  
DISCONTINUED OPERATIONS:                    
  Loss from discontinued operations     (6,058 )        
   
 
 
 
NET INCOME   $ 233,878   $ 179,619   $ 112,804  
   
 
 
 
NET INCOME PER SHARE—BASIC:                    
  Income from continuing operations   $ 2.38   $ 1.77   $ 1.17  
  Loss from discontinued operations     (0.06 )        
   
 
 
 
    Net income   $ 2.32   $ 1.77   $ 1.17  
   
 
 
 
NET INCOME PER SHARE—DILUTED:                    
  Income from continuing operations   $ 2.32   $ 1.71   $ 1.12  
  Loss from discontinued operations     (0.06 )        
   
 
 
 
    Net income   $ 2.26   $ 1.71   $ 1.12  
   
 
 
 
WEIGHTED AVERAGE SHARES OUTSTANDING:                    
  Basic     100,974     101,629     96,214  
   
 
 
 
  Diluted     103,383     105,004     100,522  
   
 
 
 

The accompanying notes are an integral part of these consolidated financial statements.

F-5



CAREER EDUCATION CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

(In thousands)

 
  Common Stock
   
   
   
   
   
 
 
   
  Accumulated
Other
Comprehensive
Income (Loss)

   
   
   
 
 
  Issued
Shares

  $0.01 Par Value
  Additional
Paid-in
Capital

  Treasury
Stock

  Retained
Earnings

  Total
 
BALANCE, December 31, 2002   92,060   $ 920   $ 277,804   $ (1,109 ) $   $ 115,795   $ 393,410  
  Net income                       112,804     112,804  
  Foreign currency translation               4,095             4,095  
                                     
 
    Total comprehensive income                                       116,899  
  Compensatory options           248                 248  
  Issuance of common stock   4,544     46     152,052                 152,098  
  Options exercised   3,591     36     24,581                 24,617  
  Tax benefit of options exercised           41,897                 41,897  
   
 
 
 
 
 
 
 
BALANCE, December 31, 2003   100,195   $ 1,002   $ 496,582   $ 2,986   $   $ 228,599   $ 729,169  
   
 
 
 
 
 
 
 
  Net income                       179,619     179,619  
  Foreign currency translation               1,410             1,410  
                                     
 
    Total comprehensive income                                       181,029  
  Issuance of common stock   195     2     6,246                 6,248  
  Options exercised   2,147     21     25,259                 25,280  
  Tax benefit of options exercised           43,105                 43,105  
   
 
 
 
 
 
 
 
BALANCE, December 31, 2004   102,537   $ 1,025   $ 571,192   $ 4,396   $   $ 408,218   $ 984,831  
   
 
 
 
 
 
 
 
  Net income                       233,878     233,878  
  Foreign currency translation               (2,435 )           (2,435 )
  Unrealized gain on investments               28             28  
                                     
 
    Total comprehensive income                                       231,471  
  Treasury stock purchased                   (200,158 )       (200,158 )
  Compensatory shares   1         34                 34  
  Issuance of common stock   207     2     5,797                 5,803  
  Options exercised   640     6     8,996                 8,998  
  Tax benefit of options exercised           5,268                 5,268  
   
 
 
 
 
 
 
 
BALANCE, December 31, 2005   103,385   $ 1,033   $ 591,287   $ 1,989   $ (200,158 ) $ 642,096   $ 1,036,247  
   
 
 
 
 
 
 
 

The accompanying notes are an integral part of these consolidated financial statements.

F-6



CAREER EDUCATION CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 
  For the Year Ended December 31,
 
 
  2005
  2004
  2003
 
CASH FLOWS FROM OPERATING ACTIVITIES:                    
  Net income   $ 233,878   $ 179,619   $ 112,804  
  Adjustments to reconcile net income to net cash provided by operating activities:                    
    Loss from discontinued operations     6,058          
    Depreciation and amortization     78,720     57,469     43,908  
    Deferred income taxes     (76 )   7,439     11,489  
    Loss on disposition of property and equipment     1,245     602     244  
    Tax benefit associated with option exercises     5,268     43,105     41,897  
    Other     812     821     991  
    Changes in operating assets and liabilities, net of acquisitions:                    
      Student receivables, gross     24,142     6,653     (31,224 )
      Allowance for doubtful accounts     (16,132 )   12,664     11,896  
      Other receivables, net     167     1,648     455  
      Inventories, prepaid expenses, and other current assets     (29,771 )   231     (16,356 )
      Deposits and other non-current assets     2,163     3,094     2,745  
      Accounts payable     (9,255 )   7,448     3,786  
      Accrued expenses, deferred rent obligations, and other liabilities     92,073     30,469     (574 )
      Deferred tuition revenue     (11,067 )   24,892     51,226  
   
 
 
 
        Net cash provided by operating activities     378,225     376,154     233,287  
   
 
 
 
CASH FLOWS FROM INVESTING ACTIVITIES:                    
  Business dispositions / acquisitions, net of cash     (1,019 )   (17 )   (83,484 )
  Acquisition transaction costs         (26 )   (6,680 )
  Purchases of property and equipment     (125,626 )   (142,781 )   (100,272 )
  Purchases of investments     (920,163 )        
  Sales of investments     648,097          
  Other     (826 )   1,054     (10 )
   
 
 
 
        Net cash used in investing activities     (399,537 )   (141,770 )   (190,446 )
   
 
 
 
CASH FLOWS FROM FINANCING ACTIVITIES:                    
  Purchases of treasury stock     (200,158 )   (499 )   (8,802 )
  Issuance of common stock     14,801     31,528     27,894  
  Net proceeds from (payments of) revolving loans     (2,477 )   (78,963 )   66,009  
  Payments of capital lease obligations and other long-term debt     (1,869 )   (2,977 )   (3,108 )
  Other         (4 )   (584 )
   
 
 
 
        Net cash provided by (used in) financing activities     (189,703 )   (50,915 )   81,409  
   
 
 
 
EFFECT OF FOREIGN CURRENCY EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS     (6,135 )   4,754     3,511  
   
 
 
 
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS     (217,150 )   188,223     127,761  
CASH AND CASH EQUIVALENTS, beginning of year     349,458     161,235     33,474  
   
 
 
 
CASH AND CASH EQUIVALENTS, end of year   $ 132,308   $ 349,458   $ 161,235  
   
 
 
 

The accompanying notes are an integral part of these consolidated financial statements.

F-7



CAREER EDUCATION CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2005, 2004, and 2003

1.     DESCRIPTION OF THE COMPANY

        We are a dynamic educational services company committed to quality, career-focused learning and led by passionate professionals who inspire individual worth and lifelong achievement. Since our founding in 1994, we have progressed rapidly toward our goal of becoming the world's leading provider of quality educational services. We are the world's largest on-ground provider of private, for-profit postsecondary education and have a substantial and growing presence in online education. Our schools, which are segregated into two reporting segments, prepare students for professionally and personally rewarding careers through the operation of 86 campuses, including two online campuses, located throughout the United States and in France, Canada, and the United Kingdom.

        The College, Schools and Universities ("CSU") segment represents an aggregation of our on-ground schools that provide educational services primarily in a classroom or laboratory setting. Our CSU segment schools offer doctoral degree, master's degree, bachelor's degree, associate degree, and non-degree certificate and diploma programs in the career- oriented disciplines of business studies, visual communication and design technologies, health education, culinary arts, and information technology.

        The Online Education Group ("OEG") segment represents an aggregation of the online campuses of American InterContinental University, American InterContinental University Online ("AIU Online"), and Colorado Technical University, Colorado Technical University Online ("CTU Online") and Stonecliffe College Online (an academic division of Colorado Technical University). Our schools' online campuses collectively offer degree programs in the career-oriented disciplines of information technology, computer science, business, visual communication, criminal justice, and education. These programs provide students with the knowledge and skills we believe they will need to compete successfully in today's competitive job market.

        Our total student population as of January 31, 2006, was approximately 104,200 students, including approximately 32,700 students enrolled at our OEG segment campus.

2.     SIGNIFICANT ACCOUNTING POLICIES

a. Principles of Consolidation

        These consolidated financial statements include the accounts of CEC and our wholly-owned subsidiaries. All significant inter-company transactions and balances have been eliminated. The results of operations of all acquired businesses have been consolidated for all periods subsequent to the date of acquisition.

b. Management's Use of Estimates

        The preparation of financial statements in conformity with accounting principles generally accepted in the U.S. ("GAAP") requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent liabilities as of the date of the financial statements and reported amounts of revenues and expenses during the reported period. Significant estimates, among others, include the allowance for doubtful accounts, the allocation of purchase price to the fair value of net assets acquired in connection with business combinations, fair values used in goodwill impairment evaluations, and valuations of liabilities established as of the date

F-8



of business acquisitions, including restructuring liabilities and certain long-term contractual obligations. Actual results could differ from these estimates.

c. Concentration of Credit Risk

        We extend unsecured credit for tuition to a portion of the students who are enrolled at our schools.

        Based upon past experience and judgment, we establish an allowance for doubtful accounts with respect to student receivables. Our schools calculate and record allowances for doubtful accounts based on a standard allowance estimation methodology developed by corporate financial management. As discussed in Note 7 "Changes in Allowance for Doubtful Accounts Estimate" of these notes to our consolidated financial statements, effective as of December 31, 2004, we modified our allowance estimation methodology in the fourth quarter of 2004. Our standard allowance estimation methodology considers a number of factors that, based on our collections experience, we believe have an impact on our credit risk and the realizability of our student receivables. Among these factors are a student's status (in-school or out-of-school), anticipated funding source (for example, federal loan or grant, state grant, private loan, student cash payments, etc.), whether or not an out-of-school student has completed his or her program of study, and our overall collections history. Out-of-school students include students who have withdrawn from or completed their programs of study. All other students are classified as in-school students.

        Our allowance estimation methodology divides our accounts receivable due from in-school students into groups according to each student's primary funding source. Our allowance methodology for out-of-school student accounts separates such accounts into two categories of students—those who have completed their programs of study and those that have not. We apply allowance percentage estimates that are based upon our historical collections experience to each in-school student funding source group and out-of-school student category.

        We monitor our collections and write-off experience to assess whether adjustments to our allowance percentage estimates are necessary. In this way, we believe that our allowance estimation methodology reflects our most recent collections experience and is responsive to changes in the total mix of student funding sources. Changes in trends in any of the factors that we believe impact the realizability of our student receivables, as noted above, or modifications to our credit standards, collection practices, and other related policies may impact our estimate of our allowance for doubtful accounts and our financial results. Our standard allowance estimation methodology is evaluated for propriety by corporate financial management on a periodic basis and modified as necessary. Changes to the design of our standard allowance estimation methodology, including our allowance percentage estimates, may impact our estimate of our allowance for doubtful accounts and our financial results.

        Corporate financial management reviews the allowance estimate calculations completed by each of our campuses to monitor compliance with our allowance estimation methodology and, based on judgment and consideration of emerging trends and existing facts and circumstances, may adjust the consolidated balance of our allowance estimate, as appropriate.

        A substantial portion of credit extended to students is repaid through the students' participation in various federal financial aid programs authorized by Title IV of the Higher Education Act of 1965, as amended ("HEA"), which we refer to as "Title IV Programs". The following table summarizes our U.S. schools' cash receipts from Title IV Programs for the years ended December 31, 2005, 2004, and 2003.

F-9


The balances and percentages reflected therein were determined based upon each U.S. school's cash receipts for the twelve-month period ended December 31, pursuant to the regulations of the U.S. Department of Education ("ED") at 34 C.F.R. § 600.5.

 
  For the Year Ended December 31,
 
 
  2005
  2004
  2003
 
 
  (Dollars in thousands)

 
Total Title IV funding   $ 1,159,366   $ 919,915   $ 671,413  
Total cash receipts   $ 1,868,259   $ 1,590,479   $ 1,159,523  
Total Title IV funding as a percentage of total cash receipts     62 %   58 %   58 %

        Transfers of funds received from Title IV Programs are made in accordance with ED requirements. Changes in ED funding of Title IV Programs could impact our ability to attract students and the realizability of our student receivables.

d. Fair Value of Financial Instruments

        Our financial instruments consist of cash and cash equivalents, investments, accounts receivable and payable, loans receivable, long-term debt, and derivatives. The carrying values of current assets and liabilities reasonably approximate their fair values due to their short maturity periods. The carrying values of our debt obligations reasonably approximate their fair values as the stated interest rates approximate current market interest rates of debt with similar terms.

e. Revenue Recognition

        Our revenue is derived primarily from academic programs taught to students who attend our schools. We generally segregate our revenue into two categories, (1) tuition and registration fees and (2) other. Tuition and registration fees represent costs to our students of educational services provided by our schools. We generally bill a student for tuition at the beginning of an academic term, and we recognize the tuition as revenue on a straight-line basis over the academic term, which includes any applicable externship periods. The portion of tuition payments received from students but not earned is recorded as deferred tuition revenue and reflected as a current liability on our consolidated balance sheet, as such amount represents revenue that we expect to earn within the next year. If a student withdraws from one of our schools prior to the completion of the academic term, we refund the portion of tuition already paid that, pursuant to our refund policy and applicable federal and state law and accrediting agency standards, we are not entitled to retain.

        Our schools' academic year is generally at least 30 weeks in length but varies both by school and program of study and is divided by academic terms. Academic terms are determined by start dates, which also vary by school and program. Our schools charge tuition at varying amounts, depending on the school and on the type of program and specific curriculum. Our students finance tuition costs through a variety of funding sources, including, among others, federal loan and grant programs, state grant programs, private loans and grants, private and institutional scholarships, and cash payments. Our schools generally increase tuition one or more times annually.

        Other revenue consists of, among other things, bookstore sales, student laptop computer sales, dormitory revenue, restaurant revenue, contract training revenue, and cafeteria revenue. Revenue from dormitory and cafeteria services is generally billed to a student at the beginning of an academic term

F-10



and is recognized on a straight-line basis over the term of a student's dormitory and cafeteria use. Other dormitory and cafeteria revenue, as well as student laptop computer sales, bookstore sales, restaurant revenue, and contract training revenue, is billed and recognized as services are performed or goods are delivered.

        Certain of our schools bill students a single charge that covers tuition and required program materials, such as textbooks and supplies. Such billings, which we treat as a single accounting unit in accordance with EITF Issue 00-21 Revenue Arrangements with Multiple Deliverables, are recognized as tuition and registration fee revenue on a straight-line basis over the applicable academic term.

f. Cash and Cash Equivalents

        The ED requires that Title IV Program funds collected in advance of student billings be kept in a separate cash account until the students are billed for the portion of their program related to those Title IV Program funds collected. These restricted cash balances generally remain in these separate accounts for an average of 60 to 75 days from receipt. We do not recognize restricted cash balances on our consolidated balance sheets until all restrictions have lapsed. As of December 31, 2005 and 2004, the amount of restricted cash balances kept in separate cash accounts is not significant. Restrictions on cash balances have not affected our ability to fund daily operations.

        Cash equivalents include short-term investments with a term to maturity of less than 90 days.

g. Investments

        Investments, which primarily consist of municipal auction rate securities and asset-back securities, are classified as "available-for-sale" in accordance with the provisions of Statement of Accounting Standards No. 115, Accounting for Certain Investments in Debt and Equity Securities and are recorded at fair value. Any unrealized gains or temporary unrealized losses, net of income tax effects, are reported as a component of accumulated other comprehensive income on our consolidated balance sheets. Realized gains and losses are computed on the basis of specific identification and are included in miscellaneous other income (expense) in our consolidated income statements. As of December 31, 2005, our investments in municipal auction rate securities generally have stated terms to maturity of greater than one year. However, we classify such investments as current on our consolidated balance sheets because we are generally able to divest our holdings in municipal auction rate securities at auction 30 days from our purchase date.

h. Inventories

        Inventories, consisting principally of program materials, books, food, and supplies, are stated at the lower of cost, determined on a first-in, first-out basis, or market.

i. Property and Equipment

        Property and equipment are stated at cost less accumulated depreciation. Depreciation and amortization are recognized using the straight-line method over the useful lives of the related assets for financial reporting purposes and an accelerated method for income tax reporting purposes. Leasehold improvements and assets recorded under capital leases are amortized on a straight-line basis over the shorter of their estimated useful life or the lease term. Courseware represents the value of acquired curriculum and other tangible academic materials, such as lesson plans and syllabi, used to deliver

F-11



educational services. Acquired courseware balances are depreciated on a straight-line basis over their useful lives, which are estimated by management based upon, among other things, the expected future utilization period and the nature of the related academic programs. Maintenance, repairs, minor renewals, and betterments are expensed; major improvements are capitalized.

j. Goodwill and Indefinite-Lived Intangible Assets

        Goodwill represents the excess of cost over fair value of identifiable net assets acquired through business purchases. In accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets ("SFAS 142") goodwill and indefinite-lived intangible assets are reviewed for impairment on at least an annual basis by applying a fair-value-based test. In evaluating the recoverability of the carrying value of goodwill and other indefinite-lived intangible assets, we must make assumptions regarding the fair values of our reporting units, as defined under SFAS 142. Our estimate of the fair value of each of our reporting units is based primarily on projected future operating results and cash flows and other assumptions. The failure of a reporting unit to achieve projected future operating results and cash flows, or adjustments to other valuation assumptions, could change our estimate of reporting unit fair value, in which case we may be required to record an impairment charge related to goodwill and other indefinite-lived intangible assets.

k. Long-lived Assets

        On an ongoing basis, we review property and equipment, definite-lived intangible assets, and other long-lived assets for impairment whenever events or circumstances indicate that carrying amounts may not be recoverable. To date, no such events or changes in circumstances have occurred. If such events or changes in circumstances occur, we will recognize an impairment loss if the undiscounted future cash flows expected to be generated by the asset are less than the carrying value of the related asset. The impairment loss would adjust the asset to its fair value.

l. Arrangements with Affiliates

        Under a profit-sharing agreement, we are entitled to receive approximately 30% of the net income generated by the American University in Dubai, United Arab Emirates ("AU Dubai"). The amount due from AU Dubai pursuant to the agreement of approximately $2.4 million and $0.8 million, respectively, as of December 31, 2005 and 2004, is included in other non-current assets on our consolidated balance sheets, and our share of AU Dubai's 2005, 2004, and 2003 earnings is included in other income in our consolidated statements of income. During the years ended December 31, 2005, 2004, and 2003, we received distribution payments from AU Dubai totaling approximately $3.4 million, $4.0 million, and $3.3 million respectively.

m. Contingencies

        We accrue for costs associated with certain contingencies, including, but not limited to, settlement of legal proceedings and regulatory compliance matters, when such costs are probable and reasonably estimable. Liabilities established to provide for contingencies are adjusted as further information develops, circumstances change, or contingencies are resolved.

F-12



n. Income Taxes

        We account for income taxes in accordance with Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes ("SFAS 109"). SFAS 109 requires the recognition of deferred income tax assets and liabilities based upon the income tax consequences of temporary differences between financial reporting and income tax reporting by applying enacted statutory income tax rates applicable to future years to differences between the financial statement carrying amounts and the income tax basis of existing assets and liabilities. SFAS 109 also requires that deferred income tax assets be reduced by a valuation allowance if it is more likely than not that some portion of the deferred income tax asset will not be realized.

o. Derivative Financial Instruments

        We use derivative financial instruments principally to manage the risk of interest rate fluctuations and account for our derivative financial instruments in accordance with Statement of Financial Accounting Standards No. 133, Accounting for Derivatives and Hedging Activities ("SFAS 133") as amended. All derivative financial instruments are recognized on the balance sheet at fair value. Changes in the fair value of derivative financial instruments are recorded in earnings or other comprehensive income, based on whether the instrument is designated as part of a hedge transaction and, if so, the type of hedge transaction. Gains or losses on derivative financial instruments reported in other comprehensive income are reclassified to earnings in the period in which earnings are affected by the underlying hedged item. The ineffective portion of all hedges is recognized in earnings in the current period. As of December 31, 2005, the fair value of our derivative financial instruments is not significant.

p. Deferred Rent Obligations

        Certain of the real estate operating lease agreements to which we are party contain rent escalation clauses or lease incentives, such as rent abatements or tenant improvement allowances. Escalation clauses and lease incentives are considered by us in determining total rent expense to be recognized during the term of the lease, which begins on the date that we take control of the leased space. Renewal options are considered by us in evaluating the overall term of the lease. Differences between periodic rent expense and periodic cash rental payments, caused primarily by the recognition of rent expense on a straight-line basis, and tenant improvement allowances due or received from lessors are recorded as deferred rent obligations on our consolidated balance sheet.

        On February 7, 2005, the SEC issued explanatory guidance expressing its views regarding certain operating lease-related accounting issues and the applicable GAAP treatment. Subsequently, we initiated a review of our lease-related accounting and determined that our previous method of accounting for tenant improvement allowances was not in accordance with GAAP. We had historically accounted for tenant improvement allowances as reductions of the related leasehold improvement asset on our consolidated balance sheets and as a reduction of capital expenditures in investing activities in our consolidated statement of cash flows. In accordance with GAAP, tenant improvement allowances should be recorded as a leasehold improvement asset and deferred rent obligation on our consolidated balance sheets and a capital expenditure and cash inflow from operating activities in our consolidated statement of cash flows. During 2005, we recorded leasehold improvements and deferred rent obligations on our consolidated balance sheets in recognition of tenant improvement allowances due or received from lessors. We also revised the presentation of our consolidated statement of cash flows to

F-13



reflect cash reimbursements received for tenant improvement allowances during the year as increases in capital expenditures and an increase in cash flows from operating activities. These accounting changes, had they been adopted in prior periods, would not have had a significant effect on prior period consolidated operating results, financial position, or cash flows.

q. Share-Based Compensation

        We account for share-based employee compensation in accordance with Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees ("Opinion 25") and have adopted the disclosure-only provisions of Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation ("SFAS 123") related to share-based compensation issued to employees, including stock options and employee stock purchases pursuant to our employee stock purchase plan. For share-based compensation issued to employees during the years ended December 31, 2005, 2004, and 2003, compensation expense reflected in net income in our consolidated statements of income was not significant. Had we applied the fair value recognition provisions of SFAS 123 to share-based employee compensation during the years ended December 31, 2005, 2004, and 2003, our net income and earnings per share would have been as follows:

 
  For the Year Ended December 31,
 
 
  2005
  2004
  2003
 
 
  (In thousands, except
per share amounts)

 
Net income, as reported   $ 233,878   $ 179,619   $ 112,804  
Share-based employee compensation expense determined under fair value method for all awards, net of tax effect     (27,977 )   (16,081 )   (12,448 )
   
 
 
 
Pro forma net income   $ 205,901   $ 163,538   $ 100,356  
   
 
 
 

Basic net income per share—

 

 

 

 

 

 

 

 

 

 
  As reported   $ 2.32   $ 1.77   $ 1.17  
   
 
 
 
  Pro forma   $ 2.04   $ 1.61   $ 1.04  
   
 
 
 

Diluted net income per share—

 

 

 

 

 

 

 

 

 

 
  As reported   $ 2.26   $ 1.71   $ 1.12  
   
 
 
 
  Pro forma   $ 1.99   $ 1.56   $ 1.00  
   
 
 
 

        On December 15, 2005, we accelerated the vesting of all outstanding, unvested stock options with a per share exercise price greater than $32.63 (the market closing price of our common stock as of December 15, 2005) that were previously awarded to employees, including executive officers, and directors during 2003 and 2004 under our stock option plans, such that all such options became immediately exercisable. Future pre-tax compensation expense that was eliminated as a result of the acceleration of the vesting of these options, which otherwise would have been recognized as compensation expense during the original vesting periods, totaled approximately $18.0 million. This expense, net of tax effect of approximately $6.7 million, has been reflected as a component of pro forma 2005 compensation expense. See Note 17 "Share Based Compensation" of these notes to our consolidated financial statements for a detailed discussion of this modification to certain outstanding stock options.

F-14



        The share-based compensation expense summarized above is not likely to be indicative of amounts that may be expected in future years because stock options vest over several years, share-based compensation expense is recognized as the stock options vest, additional stock option awards may be granted, and 2005 pro forma results include the non-recurring effect of the acceleration of the vesting of certain stock options. See Note 17 "Share Based Compensation" of these notes to our consolidated financial statements for a detailed discussion of our share-based employee compensation plans and assumptions used to value share-based awards granted to employees during the years ended December 31, 2005, 2004, and 2003.

        Costs associated with stock options issued to non-employees are recorded in accordance with SFAS 123. Such costs were not significant during the years ended December 31, 2005, 2004, and 2003.

r. Foreign Currency Translation

        For the years ended December 31, 2005, 2004, and 2003, revenues and expenses related to our foreign-based subsidiaries have been translated into U.S dollars at average exchange rates in effect at the time that the underlying transactions occurred, with translation gains or losses included in net income. The assets and liabilities of these subsidiaries have been translated into U.S. dollars at the year-end exchange rate, with gains and losses resulting from such translation included in accumulated other comprehensive income. The functional currency of each of our foreign subsidiaries is its local currency.

s. Educational Services and Facilities Expense

        Educational services and facilities expense includes costs directly attributable to the educational activity of our schools, including, among other things, salaries and benefits of faculty, academic administrators, and student support personnel, rents on school leases, distance learning costs, certain costs of establishing and maintaining computer laboratories, costs of student housing, owned and leased facility costs, royalty fees paid to Le Cordon Bleu Limited, and certain student financing costs. Also, included in educational services and facilities expenses are costs of other goods and services provided by our schools, including costs of textbooks, laptop computers, dormitory services, restaurant services, contract training, cafeteria services, rental services, and print-room services. Costs of such other goods and services, included in educational services and facilities expense in our consolidated statements of income, were approximately $99.0 million, $96.3 million, and $77.6 million for the years ended December 31, 2005, 2004, and 2003, respectively.

t. Recourse Loan Fees

        Under our recourse loan agreement with Sallie Mae, we are required to deposit 20% of all loans funded pursuant to such agreement into a Sallie Mae reserve account. The amount of our purchase obligation may not exceed this 20% deposit. We record such amounts as a deposit in long-term assets on our consolidated balance sheet. Amounts on deposit may ultimately be utilized to purchase loans in default, in which case recoverability of such amounts would be in question. Therefore, we establish a 100% reserve for amounts on deposit through the use of a deposit contra-account. We believe that costs associated with our Sallie Mae recourse loan programs are directly attributable to the educational activity of our schools and the support of our students. Therefore, such costs are classified as educational services and facilities expense in our consolidated statement of income. Costs are recognized on a straight-line basis over the course of the instructional term for which the underlying

F-15



loan is granted as the related revenues are earned. Upon purchasing Sallie Mae loans in default, we transfer an amount equal to the total balance of the loans purchased from the deposit account to a long-term recourse loan receivable account and transfer an offsetting amount from the deposit contra-account to a long-term recourse loan receivable contra-account, such that the net book value of the purchased loans is generally zero.

        Under our recourse loan agreement with Stillwater National Bank and Trust Company ("Stillwater"), we are required to deposit 50% of all loans funded into a Stillwater reserve account. We are ultimately obligated to purchase 100% of the loans offered for sale by Stillwater. Amounts held in reserve with Stillwater will be used to finance 50% of the principal balance of any loans that we are required to purchase pursuant to the agreement. We record such amounts as a deposit in long-term assets on our consolidated balance sheet. Based on our collection experience, we establish a 100% reserve against Stillwater funds on deposit. Due to the high level of uncollectible amounts expected under the Stillwater agreement, the associated costs are classified as a reduction of the related tuition revenue in our consolidated statement of income. Costs are recognized on a straight-line basis over the course of the instructional term for which the underlying loan was granted as the related revenues are earned. Upon purchasing Stillwater loans in default, we record the total balance of the loans as a long-term recourse loan receivable and transfer the reserve for recourse loans withheld by the lender, totaling approximately 50% of the related principal balance, from the deposit contra-account to the long-term loan receivable contra-account, such that the net book value of the purchased loans is approximately 50% of the related principal balance. Based on our collection experience, we believe that the 50% reserve is reasonable to provide for Stillwater loans that have been purchased or that may be purchased and that may be ultimately uncollectible. We evaluate the collectibility of our Stillwater loan receivables on a periodic basis and may adjust our reserve estimates in future periods based on collections experience.

        See Note 11 "Recourse Loan Agreements" of these notes to our consolidated financial statements for a detailed discussion of our recourse loan agreements.

u. Advertising Costs

        Advertising costs are expensed as incurred. Advertising costs, which are included in general and administrative expenses in our consolidated statements of income, were approximately $244.6 million, $199.8 million, and $129.0 million, respectively, for the years ended December 31, 2005, 2004, and 2003.

F-16


v. Weighted Average Common Shares

        The weighted average number of common shares used to compute basic and diluted net income per share for the years ended December 31, 2005, 2004, and 2003, were as follows:

 
  For the Year Ended December 31,
 
  2005
  2004
  2003
 
  (In thousands)

Basic weighted average common shares outstanding   100,974   101,629   96,214
Common stock equivalents   2,409   3,375   4,308
   
 
 
Diluted weighted average common shares outstanding   103,383   105,004   100,522
   
 
 

        Included in stock options outstanding are options to purchase 1.4 million, 1.4 million, and 0.3 million shares of our comm