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

 

FORM 10-Q

 

 

Commission File Number: 0-25232

 

APOLLO GROUP, INC.

(Exact name of registrant as specified in its charter)

 

 

4025 S. RIVERPOINT PARKWAY, PHOENIX, ARIZONA 85040
(Address of principal executive offices, including zip code)

 

(480) 966-5394

(Registrant’s telephone number, including area code)

 

(Former name, former address and former fiscal year, if changed since last report)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

YES þ     NO o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

 

YES þ     NO o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

(Do not check if a smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

 

YES o     NO þ

 

AS OF June 17, 2010, THE FOLLOWING SHARES OF STOCK WERE OUTSTANDING:

 

 

 

APOLLO GROUP, INC. AND SUBSIDIARIES
FORM 10-Q
INDEX

 

 

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

 

 

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

 

APOLLO GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

 

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

APOLLO GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

 

 

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

APOLLO GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

 

 

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

APOLLO GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

FROM CONTINUING AND DISCONTINUED OPERATIONS

(Unaudited)

 

 

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

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

Note 1.  Nature of Operations

 

Apollo Group, Inc., its wholly-owned subsidiaries and subsidiaries that we control, collectively referred to herein as “the Company,” “Apollo Group,” “Apollo,” “APOL,” “we,” “us” or “our,” has been an education provider for more than 35 years. We offer innovative and distinctive educational programs and services both online and on-campus at the undergraduate, master’s and doctoral levels through our wholly-owned subsidiaries:

 

 

In addition to these wholly-owned subsidiaries, we have an 85.6% ownership interest in Apollo Global, Inc. (“Apollo Global”), which pursues investments primarily in the international education services industry, and which we consolidate in our financial statements. Apollo Global has completed the following acquisitions:

 

 

In addition, in April 2010, we contributed all of the common stock of Western International University, Inc. (“Western International University”), which was previously our wholly-owned subsidiary, to Apollo Global. Refer to Note 4, Acquisitions, for further discussion.

 

We also operate online high school programs through our Insight Schools, Inc. (“Insight Schools”) wholly-owned subsidiary. In the second quarter of fiscal year 2010, we initiated a formal plan to sell Insight Schools, engaged an investment bank and also began the process of actively marketing Insight Schools as we determined that the business was no longer consistent with our long-term strategic objectives. Accordingly, we have presented Insight Schools as held for sale and as discontinued operations. Refer to Note 3, Discontinued Operations, for further discussion.

 

Note 2.  Significant Accounting Policies

 

Basis of Presentation

 

The unaudited interim condensed consolidated financial statements include the accounts of Apollo Group, Inc., its wholly-owned subsidiaries, and subsidiaries that we control. These unaudited interim condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the U.S. Securities and Exchange Commission and, in the opinion of management, contain all adjustments, consisting of normal, recurring adjustments, necessary to fairly present the financial condition, results of operations and cash flows for the periods presented.

 

Certain information and note disclosures normally included in these unaudited interim condensed consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) have been condensed or omitted pursuant to Securities and Exchange Commission rules. We believe that the disclosures made are adequate to make the information presented not misleading. We consistently applied the accounting policies described in Item 8, Financial Statements and Supplementary Data, in our 2009 Annual Report on Form 10-K as filed with the Securities and Exchange Commission on October 27, 2009 in preparing these unaudited interim condensed consolidated financial statements. For a discussion of our critical accounting policies, please refer to our 2009 Annual Report on Form 10-K and Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations, included in this filing.

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

These unaudited interim condensed consolidated financial statements and accompanying notes should be read in conjunction with Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations, included in this filing and the audited consolidated financial statements and notes thereto contained in our 2009 Annual Report on Form 10-K.

 

Our fiscal year is from September 1 to August 31. Unless otherwise noted, references to particular years or quarters refer to our fiscal years and the associated quarters of those fiscal years.

 

Our operations are generally subject to seasonal trends. We experience, and expect to continue to experience, fluctuations in our results of operations as a result of seasonal variations in the level of student enrollments and timing of certification exams.

 

 

Because of the seasonal nature of our business, the results of operations for the three and nine months ended May 31, 2010 are not necessarily indicative of results to be expected for the entire fiscal year.

 

The preparation of financial statements in accordance with GAAP requires management to make certain estimates and assumptions that affect the reported amount of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period. Actual results could differ from these estimates.

 

Assets and liabilities expected to be sold or disposed of are presented separately in our Condensed Consolidated Balance Sheets as assets or liabilities held for sale. If we determine we will not have continued significant involvement with components that are classified as held for sale, the results of operations of these components are presented separately as income (loss) from discontinued operations, net of tax, in the current and prior periods. Refer to Note 3, Discontinued Operations, for further discussion.

 

Recent Accounting Pronouncements

 

Pronouncements Adopted

 

In September 2006, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS 157”) (codified in ASC 820, “Fair Value Measurements and Disclosures” (“ASC 820”)), which provides enhanced guidance for using fair value to measure assets and liabilities. On September 1, 2008, as permitted, we partially adopted the provisions in SFAS 157 for fair valuing financial assets and liabilities and non-financial assets and liabilities that are recognized or disclosed at fair value on a recurring basis. The partial adoption of SFAS 157 did not have a material impact on our financial condition and results of operations. Effective September 1, 2009, we completed our full adoption of the provisions of SFAS 157 with respect to fair valuing non-financial assets and liabilities not measured on a recurring basis, and the adoption did not have a material impact on our financial condition, results of operations, and disclosures.

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS 141(R)”) (codified in ASC 805, “Business Combinations” (“ASC 805”)), which is a revision of SFAS 141, “Business Combinations.” The primary requirements of SFAS 141(R) are as follows:

 

 

In April 2009, the FASB issued FSP No. FAS 141(R)-1, “Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies” (“FSP FAS 141(R)-1”) (codified in ASC 805). FSP FAS 141(R)-1 amends and clarifies SFAS 141(R) to address application issues raised about the initial recognition and measurement, subsequent measurement and accounting, and disclosure of assets and liabilities arising from contingencies in a business combination. SFAS 141(R) and FSP FAS 141(R)-1 apply prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. We adopted SFAS 141(R) and FSP FAS 141(R)-1 on September 1, 2009. The adoption of SFAS 141(R) and FSP FAS 141(R)-1 did not have a material impact on our financial condition, results of operations, and disclosures. Deferred acquisition costs as of the adoption of SFAS 141(R) were not significant and were expensed as of August 31, 2009.

 

In December 2007, the FASB issued SFAS No. 160, “Non-controlling Interests in Consolidated Financial Statements – An Amendment of ARB No. 51” (“SFAS 160”) (codified in ASC 810, “Consolidation” (“ASC 810”)). SFAS 160 establishes new accounting and reporting standards for the non-controlling interest in a subsidiary and for the deconsolidation of a subsidiary. SFAS 160 requires non-controlling interests to be treated as a separate component of equity and any changes in the parent’s ownership interest (in which control is retained) are accounted for as equity transactions. However, a change in ownership of a consolidated subsidiary that results in deconsolidation triggers gain or loss recognition, with the establishment of a new fair value basis in any remaining non-controlling ownership interests. SFAS 160 also establishes disclosure requirements that clearly identify and distinguish between the interests of the parent and the non-controlling interests. SFAS 160 is effective for fiscal years beginning on or after December 15, 2008 and the provisions are prospective upon adoption, except for the presentation and disclosure requirements, which must be applied retrospectively for all periods presented. Accordingly, we adopted SFAS 160 on September 1, 2009 and retrospectively adjusted the following statements:

 

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

 

Refer to Note 12, Shareholders’ Equity, for additional disclosure related to our adoption of the provisions of SFAS 160.

 

Pronouncements Not Yet Adopted

 

In June 2009, the FASB issued SFAS No. 167, “Amendments to FASB Interpretation No. 46(R)” (“SFAS 167”) (codified in ASC 810), which modifies how a company determines when an entity that is insufficiently capitalized or is not controlled through voting (or similar rights) should be consolidated. SFAS 167 clarifies that the determination of whether a company is required to consolidate an entity is based on, among other things, an entity’s purpose and design and a company’s ability to direct the activities of the entity that most significantly impact the entity’s economic performance. SFAS 167 requires an ongoing reassessment of whether a company is the primary beneficiary of a variable interest entity. SFAS 167 also requires additional disclosures about a company’s involvement in variable interest entities and any significant changes in risk exposure due to that involvement. SFAS 167 is effective for fiscal years beginning after November 15, 2009 and is effective for us on September 1, 2010. We are currently evaluating the impact that the adoption of SFAS 167 will have on our financial condition, results of operations, and disclosures.

 

In October 2009, the FASB issued Accounting Standards Update (“ASU”) No. 2009-13, “Revenue Recognition (Topic 605): Multiple-Deliverable Revenue Arrangements—a consensus of the FASB Emerging Issues Task Force” (“ASU 2009-13”), which provides guidance on whether multiple deliverables exist, how the arrangement should be separated, and the consideration allocated. ASU 2009-13 requires an entity to allocate revenue in an arrangement using estimated selling prices of deliverables if a vendor does not have vendor-specific objective evidence or third-party evidence of selling price. ASU 2009-13 is effective for the first annual reporting period beginning on or after June 15, 2010 and may be applied retrospectively for all periods presented or prospectively to arrangements entered into or materially modified after the adoption date. Early adoption is permitted provided that the revised guidance is retroactively applied to the beginning of the year of adoption. ASU 2009-13 is effective for us on September 1, 2010. We are currently evaluating the impact that the adoption of ASU 2009-13 will have on our financial condition, results of operations, and disclosures.

 

In January 2010, the FASB issued ASU No. 2010-06, “Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements” (“ASU 2010-06”). ASU 2010-06 amends ASC 820 to add new disclosure requirements for significant transfers in and out of Level 1 and 2 measurements and to provide a gross presentation of the activities within the Level 3 rollforward. ASU 2010-06 also clarifies existing fair value disclosures about the level of disaggregation and about inputs and valuation techniques used to measure fair value. The disclosure requirements in ASU 2010-06 are effective for interim and annual reporting periods beginning after December 15, 2009, and are effective for us on March 1, 2010, except for the requirement to present the Level 3 rollforward on a gross basis, which is effective for fiscal years beginning after December 15, 2010, and is effective for us on September 1, 2011. The partial adoption of ASU 2010-06 on March 1, 2010 did not have a material impact on our fair value measurement disclosures. We are currently evaluating the impact that the full adoption of ASU 2010-06, with respect to the Level 3 rollforward, will have on our fair value measurement disclosures.

 

Note 3.  Discontinued Operations

 

In the second quarter of fiscal year 2010, we initiated a formal plan to sell Insight Schools, engaged an investment bank and also began the process of actively marketing Insight Schools as we determined that the business was no longer consistent with our long-term strategic objectives. We do not expect to have significant continuing involvement with Insight Schools after it is sold. Based on these factors, we concluded that we met the criteria for presenting Insight Schools as held for sale and as discontinued operations and began presenting Insight Schools’ assets and liabilities as held for sale in our Condensed Consolidated Balance Sheets and Insight Schools’ operating results as discontinued operations in our Condensed Consolidated Statements of Income for all periods presented. We determined cash flows from discontinued operations are not material and are included with cash flows from

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

continuing operations in our Condensed Consolidated Statements of Cash Flows from Continuing and Discontinued Operations. Insight Schools was previously presented as its own reportable segment.

 

Since Insight Schools meets the held for sale criteria, we are required to present its assets and liabilities held for sale at the lower of the carrying amount or fair value less cost to sell. Accordingly, in the second quarter of fiscal year 2010, we evaluated Insight Schools’ respective assets held for sale, including goodwill and other long-lived assets for impairment. Our goodwill impairment analysis as of February 28, 2010 resulted in recognizing a $9.4 million goodwill impairment charge. This charge was recorded in the second quarter of fiscal year 2010 and is reflected as a component of income (loss) from discontinued operations in our Condensed Consolidated Statements of Income.

 

At February 28, 2010, our fair value estimate was derived from obtaining exit price information from advisors and interested parties specific to the sale of Insight Schools. We considered this information in revising our estimate of fair value as a result of our intent to sell Insight Schools. Historically, our fair value analysis used a combination of the discounted cash flow and market-based approaches by applying a 75%/25% weighting factor to these respective valuation methods. The non-binding offers received for Insight Schools were significantly lower than the estimated fair value derived from our prior valuation methods. Rather, the non-binding offers received for Insight Schools were based on Insight Schools’ recent operating performance, which has generated and is expected to continue to generate operating losses in the near term. Refer to Note 6, Goodwill and Intangible Assets, and Note 7, Fair Value Measurements, for further discussion.

 

In the third quarter of fiscal year 2010, we continued to progress with sale activities for Insight Schools, including engaging in non-binding negotiations with an interested party. We believe the sale continues to be probable within a year from the date on which we classified Insight Schools as held for sale. At each period end, we are required to evaluate our fair value less cost to sell estimate to determine whether a change in estimate is required. As of May 31, 2010, our fair value estimate for Insight Schools was derived from recent exit price information received specific to these non-binding negotiations. Based on this evaluation, we determined that the fair value less cost to sell continues to approximate the carrying value of Insight Schools resulting in no additional impairment.

 

The major components of assets and liabilities of Insight Schools’ presented separately in the Condensed Consolidated Balance Sheets as held for sale as of May 31, 2010 are outlined below. For comparability purposes, we have also presented below Insight Schools’ assets and liabilities as of August 31, 2009, which are included in the respective financial statement line items.

 

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

The following table summarizes Insight Schools’ operating results for the three and nine months ended May 31, 2010 and 2009, which are presented in income (loss) from discontinued operations, net of tax in our Condensed Consolidated Statements of Income:

 

 

 

 

We include only revenues and costs, including the goodwill impairment charge discussed above, directly attributable to the discontinued operations, and not those attributable to the ongoing entity. Accordingly, no interest expense or general corporate overhead have been allocated to Insight Schools. Additionally, we have ceased depreciation and amortization on property and equipment and finite-lived intangible assets at Insight Schools.

 

Note 4.  Acquisitions

 

Western International University

 

On April 8, 2010, we contributed all of the common stock of Western International University, which was previously our wholly-owned subsidiary, to Apollo Global. We believe Western International University will better leverage the capabilities of Apollo Global’s international resources to serve both its U.S. and international students. The transaction was structured as an asset transfer from Apollo Group to Apollo Global with Apollo Global’s noncontrolling shareholder, The Carlyle Group (“Carlyle”), contributing $2.5 million, plus potential future performance-based payments, based on the estimated fair market value. The transaction does not meet the definition of a business combination under ASC 805 because it is a transfer of assets between entities under common control. Accordingly, Western International University’s net assets were recorded at carrying value of approximately $8 million as of the date of the transfer. As a result of the transfer, our ownership in Apollo Global was reduced from 86.1% to 85.6%.

 

BPP

 

On July 30, 2009, Apollo Global, through a wholly-owned United Kingdom subsidiary, acquired the entire issued and to be issued ordinary share capital of BPP, a company registered in England and Wales, for a cash purchase price of 620 pence per share. BPP is a provider of education and training to professionals in the legal and finance industries and the BPP College of Professional Studies is the first proprietary institution to have been granted degree awarding powers in the United Kingdom. At exchange rates on the date of the acquisition, the purchase price for BPP, including assumed debt and transaction related expenses, was $601.6 million.

 

We accounted for the BPP acquisition using the purchase method of accounting prior to our September 1, 2009 adoption of SFAS 141(R) (codified in ASC 805) noted in Recent Accounting Pronouncements in Note 2, Significant

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

Accounting Policies. To value the acquired assets and assumed liabilities, we used the following valuation methodologies:

 

 

A summary of the purchase price allocation is as follows:

 

 

We assigned indefinite lives to the acquired trademarks and certain accreditations and designations as we believe that each of these intangible assets has the continued ability to generate cash flows indefinitely. In addition, there are no legal, regulatory, contractual, economic or other factors to limit the useful life of these intangible assets and we intend to renew trademarks and accreditations and designations, which can be accomplished at little cost.

 

BPP’s operating results are included in our condensed consolidated financial statements from the date of acquisition.

 

Pro Forma Financial Results

 

The following unaudited pro forma financial results of operations are presented as if the acquisition of BPP had been completed as of September 1, 2008:

 

 

The pro forma financial information is presented for informational purposes and includes certain adjustments that are factual and supportable, consisting of increased interest expense on debt used to fund the acquisition,

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

adjustments to depreciation expense related to the fair value adjustment for property and equipment, and amortization related to acquired intangible assets, as well as the related tax effect of these adjustments. The pro forma information is not indicative of the results of operations that would have been achieved if the acquisition and related borrowings had taken place at the beginning of the applicable presented period, or of future results of the consolidated entities.

 

 

Accounts receivable, net consist of the following as of May 31, 2010 and August 31, 2009:

 

 

Student accounts receivable is composed primarily of amounts due related to tuition. In the second quarter of fiscal year 2010, we began presenting Insight Schools’ assets and liabilities as held for sale and its operating results as discontinued operations. Refer to Note 3, Discontinued Operations, for further discussion and disclosure of the components of Insight Schools’ assets and liabilities.

 

We reduce accounts receivable by an allowance for amounts that may become uncollectible in the future. Estimates are used in determining the allowance for doubtful accounts and are based on historical collection experience and current trends. In determining these amounts, we consider and evaluate the historical write-offs of our receivables. We monitor our collections and write-off experience to assess whether adjustments are necessary. We routinely evaluate our estimation methodology for adequacy and modify it as necessary. In doing so, our objective is to cause our allowance for doubtful accounts to reflect the amount of receivables that will become uncollectible by considering our most recent collections experience, changes in trends and other relevant facts. Please refer to our 2009 Annual Report on Form 10-K for further discussion of our related critical accounting policy. The following table summarizes the activity in the related allowance for doubtful accounts for the three and nine months ended May 31, 2010 and 2009:

 

 

Bad debt expense is included in instructional costs and services in our Condensed Consolidated Statements of Income. The increase in bad debt expense is primarily due to decreases in University of Phoenix’s collection rates. Bad debt expense has increased as a result of the economic downturn and an increase in the proportion of our receivables that are attributable to students enrolled in associate’s degree programs. Our collection rates for students enrolled in our associate’s degree programs are lower than for students enrolled in bachelor’s and graduate level programs. Also, students enrolled in associate’s degree programs generally persist at lower rates than those in

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

bachelor’s and graduate level programs, resulting in higher bad debt rates for students in associate’s degree programs.

 

Note 6.  Goodwill and Intangible Assets

 

Goodwill represents the excess of the purchase price over the amount assigned to the net assets acquired and liabilities assumed. Changes in the carrying amount of goodwill by reportable segment from August 31, 2009 to May 31, 2010 are as follows:

 

 

 

 

At May 31, 2010, we completed our annual goodwill and indefinite lived intangible asset impairment tests, as applicable, for the following reporting units that have goodwill impairment testing dates of May 31:

 

 

At May 31, 2010, the fair value of our University of Phoenix, UNIACC and Western International University reporting units exceeded the carrying value of their respective net assets by at least 40% resulting in no goodwill impairment. In determining the fair value of these reporting units, we used a discounted cash flow valuation method for our UNIACC reporting unit and market multiple information of comparable sized companies for our University of Phoenix and Western International University reporting units. Additionally, we have indefinite-lived intangible assets consisting of trademarks, foreign regulatory accreditations and designations at our UNIACC reporting unit totaling $4.7 million. At May 31, 2010, we performed a fair value analysis of these indefinite-lived intangible assets and determined there was no impairment.

 

For our ULA reporting unit, we used a discounted cash flow valuation method to determine the fair value of the reporting unit at May 31, 2010. ULA continues to delay the launch of its online program due to challenges with developing and designing the technology infrastructure to support the online platform. We have considered these uncertainties in the future cash flows used in our annual goodwill impairment test and determined that the goodwill balance was impaired. At May 31, 2010, we recorded an $8.7 million impairment charge for ULA’s goodwill. As ULA’s goodwill is not deductible for tax purposes, we did not record a tax benefit associated with the goodwill impairment charge. Additionally, we have indefinite-lived intangible assets consisting of trademarks, foreign

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

regulatory accreditations and designations at our ULA reporting unit totaling $2.5 million. At May 31, 2010, we performed a fair value analysis of these indefinite-lived intangible assets and determined there was no impairment.

 

In the second quarter of fiscal year 2010, we began presenting Insight Schools’ assets and liabilities as held for sale and its operating results as discontinued operations. We recorded a $9.4 million impairment of Insight Schools’ goodwill during the second quarter of fiscal year 2010. As Insight Schools’ goodwill is not deductible for tax purposes, we did not record a tax benefit associated with the goodwill impairment charge. At May 31, 2010, we revised our fair value estimate for Insight Schools based on recent exit price information received from engaging in non-binding negotiations with an interested party which resulted in no additional goodwill impairment. Refer to Note 3, Discontinued Operations, for further discussion.

 

Intangible assets consist of the following as of May 31, 2010 and August 31, 2009:

 

 

Finite-lived intangible assets are amortized on either a straight-line basis or using an accelerated method to reflect the economic useful life of the asset. The weighted average useful lives range from 2 to 15 years. Amortization expense for intangible assets for the three months ended May 31, 2010 and 2009 was $5.6 million and $3.6 million, respectively, and for the nine months ended May 31, 2010 and 2009 was $19.6 million and $5.5 million, respectively.

 

BPP

 

At May 31, 2010, our BPP reporting unit had goodwill and intangible assets of $375.0 million and $151.6 million, respectively. Our first annual goodwill and indefinite-lived intangible asset impairment testing date for BPP is July 1. Accordingly, we will perform this analysis in the fourth quarter of fiscal year 2010. Although we believe BPP has been temporarily adversely impacted by the economic downturn since we acquired the business in the fourth quarter of fiscal year 2009, we do not believe any material event or change in circumstance has occurred that would require us to perform an interim goodwill impairment test. Goodwill impairment tests are subjective and require the use of considerable judgment and estimates. Depending upon the outcome of our analysis in the fourth quarter of fiscal year 2010 or in subsequent periods, we may be required to record an impairment charge for a portion of BPP’s goodwill and intangible assets.

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

Note 7.  Fair Value Measurements

 

Assets and liabilities measured at fair value on a recurring basis consist of the following as of May 31, 2010:

 

 

We measure our money market funds included in cash and restricted cash equivalents, auction-rate securities included in marketable securities and interest rate swap included in other liabilities on a recurring basis at fair value. For our assets and liabilities measured on a recurring basis, we did not significantly change our valuation techniques associated with fair value measurements from prior periods.

 

 

At May 31, 2010, the carrying value of our debt, excluding capital leases, was $160.8 million. Substantially all of our debt is variable interest rate debt and the carrying amount approximates fair value.

APOLLO GROUP, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements

(Unaudited)

 

During the nine months ended May 31, 2010, we did not have any changes in our Level 3 assets that are measured at fair value on a recurring basis using significant unobservable inputs.

 

Assets measured at fair value on a non-recurring basis consist of the following as of May 31, 2010:

 

 

In the second quarter of fiscal year 2010, we began presenting Insight Schools as held for sale. Accordingly, we measured Insight Schools’ goodwill at fair value on a non-recurring basis as of February 28, 2010 using Level 3 inputs. The Level 3 inputs were primarily based on exit price information we received from third parties to purchase Insight Schools. The Insight Schools’ goodwill balance was written down to the implied fair value, resulting in an impairment charge of $9.4 million included in income (loss) from discontinued operations, net of tax in the second quarter of fiscal year 2010. Refer to Note 3, Discontinued Operations, for further discussion.

 

At May 31, 2010, ULA’s goodwill balance represents the implied fair value of goodwill and is inclusive of the $8.7 million goodwill impairment charge recorded in connection with our annual goodwill impairment test performed at May 31. ULA’s implied fair value of goodwill was determined using Level 3 inputs included in our discounted cash flow valuation method. Refer to Note 6, Goodwill and Intangible Assets, for further discussion.

 

Note 8.  Accrued Liabilities

 

Accrued liabilities consist of the following as of May 31, 2010 and August 31, 2009:

 

 

Please refer to Note 15, Commitments and Contingencies, for discussion of estimated litigation losses. Salaries, wages, and benefits represent amounts due to employees, including faculty, and third parties for salaries, bonuses, vacation pay, and health insurance. Accrued advertising represents amounts due for Internet marketing, direct mail campaigns, and print and broadcast advertising. Accrued professional fees represent amounts due to third parties for outsourced student financial aid processing and other accrued professional and legal obligations. Student refunds, grants and scholarships represent amounts due to students for tuition refunds, federal and state grants payable,

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scholarships, and other related items. Other accrued liabilities primarily includes sales and business taxes, facilities costs such as rent and utilities, and certain accrued purchases.

 

Note 9.  Debt

 

Debt and short-term borrowings consist of the following as of May 31, 2010 and August 31, 2009:

 

 

On January 4, 2008, we entered into a syndicated $500 million credit agreement (the “Bank Facility”). The Bank Facility is an unsecured revolving credit facility available for general corporate purposes including acquisitions and stock buybacks. The Bank Facility has an expansion feature for an aggregate principal amount of up to $250 million. The term is five years, expiring on January 4, 2013. The Bank Facility provides a multi-currency sub-limit facility for borrowings in certain specified foreign currencies up to $300 million.

 

As of August 31, 2009, we borrowed our entire credit line under the Bank Facility, which included £63.0 million denominated in British Pounds (equivalent to $91.5 million and $102.6 million U.S. dollars as of May 31, 2010 and August 31, 2009, respectively) related to the BPP acquisition. We repaid the U.S. dollar denominated debt on our Bank Facility of $393 million during the first quarter of fiscal year 2010.

 

The Bank Facility fees are determined based on a pricing grid that varies according to our leverage ratio. The Bank Facility fee ranges from 12.5 to 17.5 basis points and the incremental fees for borrowings under the facility range from LIBOR + 50.0 to 82.5 basis points. The weighted average interest rate on outstanding borrowings under the Bank Facility at May 31, 2010 was 1.1%.

 

The Bank Facility contains affirmative and negative covenants, including the following financial covenants: maximum leverage ratio, minimum coverage interest and rent expense ratio, and a U.S. Department of Education financial responsibility composite score. In addition, there are covenants restricting indebtedness, liens, investments, asset transfers and distributions. We were in compliance with all covenants related to the Bank Facility at May 31, 2010.

 

Other debt includes $57.1 million of variable rate debt and $12.2 million of fixed rate debt at the subsidiaries of Apollo Global. The weighted average interest rate of these debt instruments at May 31, 2010 was 4.7%.

 

Please refer to Note 7, Fair Value Measurements, for discussion of the fair value of our debt.

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Note 10.  Other Liabilities

 

Other liabilities consist of the following as of May 31, 2010 and August 31, 2009:

 

 

Deferred rent and other lease incentives represent amounts included in lease agreements and are amortized on a straight-line basis over the term of the leases. The decrease in the current portion of other liabilities primarily relates to the classification of our uncertain tax positions. For discussion of our uncertain tax positions, refer to Note 11, Income Taxes.

 

Note 11.  Income Taxes

 

We exercise significant judgment in determining our income tax provision due to transactions, credits and calculations where the ultimate tax determination is uncertain. Please refer to our significant accounting policies included in our 2009 Annual Report on Form 10-K for further discussion.

 

During the nine months ended May 31, 2010, our unrecognized tax benefits decreased by $13.1 million, excluding interest and penalties, primarily as a result of settling our Internal Revenue Code Section 162(m) issue related to stock option compensation as discussed below. This decrease was partially offset by an increase in our unrecognized tax benefits as a result of tax positions taken during the nine months ended May 31, 2010 related to state taxes.

 

As of May 31, 2010, we had total uncertain tax positions of $84.5 million, including accrued interest and penalties of $5.5 million, of which $14.9 million is included in other current liabilities in our Condensed Consolidated Balance Sheets. We believe that it is reasonably possible that this portion of our uncertain tax positions could be resolved or settled within the next 12 months. The current portion of our unrecognized tax benefits includes $5.1 million for which the statute of limitations is set to expire in the fourth quarter of fiscal year 2010. The entire amount of our unrecognized tax benefits would favorably affect our effective rate if ultimately recognized.

 

Prior to the third quarter of fiscal year 2010, we classified uncertain tax positions related to the allocation and apportionment of our income amongst various state and local jurisdictions in other current liabilities in our Condensed Consolidated Balance Sheets. We no longer believe these amounts will be paid in the next year and accordingly have classified them in other long-term liabilities in our Condensed Consolidated Balance Sheets.

 

Internal Revenue Service Audits

 

An audit relating to our U.S. federal income tax returns for fiscal years 2003 through 2005 commenced in September 2006. In February 2009, the Internal Revenue Service issued an examination report and proposed to disallow deductions relating to stock option compensation in excess of the limitations of Internal Revenue Code Section 162(m). Under Section 162(m), the amount of such deduction per covered executive officer is limited to $1.0 million per year, except to the extent the compensation qualifies as performance-based. Compensation attributable to options with revised measurement dates may not have qualified as performance-based compensation. The Internal Revenue Service examination report also proposed the additions of penalties and interest. On March 6, 2009, we commenced administrative proceedings with the Office of Appeals of the Internal Revenue Service

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challenging the proposed adjustments, including penalties and interest. On November 25, 2009, we executed a Closing Agreement with the Internal Revenue Service Office of Appeals to settle this matter. The settlement resolves only the disputed tax issues between the Internal Revenue Service and us and is not an admission by us of liability, wrongdoing, legal compliance or non-compliance for any other purpose.

 

We accrued an additional $0.5 million of interest during the first quarter of fiscal year 2010, resulting in a total accrual, prior to the settlement, of $50.5 million included in our reserve for uncertain tax positions relating to this issue. As a result of this settlement, we reclassified $27.3 million to income taxes payable in our Condensed Consolidated Balance Sheets as of November 30, 2009. We paid $22.6 million during the second quarter of fiscal year 2010 and we expect to pay the majority of the remainder by the end of fiscal year 2010. The remaining accrual of $23.2 million, relating to the amount in excess of the settlement, was reversed during the first quarter of fiscal year 2010 through a reduction in the provision for income taxes, a decrease in deferred tax assets, and an increase in additional paid-in capital in the amounts of $10.2 million, $1.5 million and $11.5 million, respectively.

 

Based on the agreed upon settlement, we believe that we are entitled to certain deductions related to stock option compensation that were not claimed on our tax returns for the years ended in 2006 through 2009. During the first quarter of fiscal year 2010, we recorded the benefit of these deductions through provision for income taxes, deferred taxes, and additional paid-in-capital in the amounts of $1.2 million, $0.9 million, and $16.0 million, respectively. We have submitted claims to the Internal Revenue Service for the deductions that were not taken on our tax returns for the years ended in 2006, 2007, and 2008. We claimed the deductions related to stock option compensation in fiscal year 2009 on our tax return for the year ended in 2009.

 

During fiscal year 2009, the Internal Revenue Service commenced an examination of our tax returns for the years ended in 2006, 2007, and 2008. In addition, we are subject to numerous ongoing audits by state, local, and foreign tax authorities. Although we believe our tax accruals to be reasonable, the final determination of tax audits in the U.S. or abroad and any related litigation could be materially different from our historical income tax provisions and accruals.

 

Note 12.  Shareholders’ Equity

 

The following tables detail changes in shareholders’ equity during the nine months ended May 31, 2010 and 2009:

 

 

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