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UNIVERSAL TECHNICAL INSTITUTE INC - Quarter Report: 2016 December (Form 10-Q)



__________________________________________________________________________________________
__________________________________________________________________________________________
U. S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
 _____________________________________________
Form 10-Q
(Mark One)

þ    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2016
 
¨    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 
 _____________________________________________
Commission File Number 1-31923
 _____________________________________________

 UNIVERSAL TECHNICAL INSTITUTE, INC.
(Exact name of registrant as specified in its charter)
 
 
 
 
 
Delaware
 
 
86-0226984
(State or other jurisdiction of
incorporation or organization)
 
 
(IRS Employer Identification No.)
16220 North Scottsdale Road, Suite 100
Scottsdale, Arizona 85254
(Address of principal executive offices)
(623) 445-9500
(Registrant’s telephone number, including area code)
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  ¨
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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes   þ    No ¨  

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.
Large accelerated filer  ¨    Accelerated filer  þ     Non-accelerated filer  ¨    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  ¨    No  þ
At January 27, 2016, there were 24,625,591 shares outstanding of the registrant's common stock.



UNIVERSAL TECHNICAL INSTITUTE, INC.
INDEX TO FORM 10-Q
FOR THE QUARTER ENDED December 31, 2016
 
 
 
 
 
 
Page
 
 
Number
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Table of Contents

Special Note Regarding Forward-Looking Statements

This report contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (Exchange Act), and Section 27A of the Securities Act of 1933, as amended (Securities Act), which include information relating to future events, future financial performance, strategies, expectations, competitive environment, regulation and availability of resources. From time to time, we also provide forward-looking statements in other materials we release to the public as well as verbal forward-looking statements. These forward-looking statements include, without limitation, statements regarding: proposed new programs; scheduled openings of new campuses and campus expansions; expectations that regulatory developments or agency interpretations of such regulatory developments or other matters will not have a material adverse effect on our consolidated financial position, results of operations or liquidity and anticipated timing for ongoing regulatory initiatives; statements concerning projections, predictions, expectations, estimates or forecasts as to our business, financial and operational results and future economic performance; and statements of management’s goals and objectives and other similar expressions. Such statements give our current expectations or forecasts of future events; they do not relate strictly to historical or current facts. Words such as “may,” “will,” “should,” “could,” “would,” “predicts,” “potential,” “continue,” “expects,” “anticipates,” “future,” “intends,” “plans,” “believes,” “estimates,” and similar expressions, as well as statements in future tense, identify forward-looking statements. However, not all forward-looking statements contain these identifying words.

We cannot guarantee that any forward-looking statement will be realized, although we believe we have been prudent in our plans and assumptions. Achievement of future results is subject to risks, uncertainties and potentially inaccurate assumptions. Many events beyond our control may determine whether results we anticipate will be achieved. Should known or unknown risks or uncertainties materialize, or should underlying assumptions prove inaccurate, actual results could differ materially from past results and those anticipated, estimated or projected. You should bear this in mind as you consider forward-looking statements.

Except as required by law, we undertake no obligation to publicly update forward-looking statements, whether as a result of new information, future events or otherwise. You are advised, however, to consult any further disclosures we make on related subjects in our Form 10-Q, 8-K and 10-K reports to the Securities and Exchange Commission (SEC). The Annual Report on Form 10-K that we filed with the SEC on November 30, 2016 listed various important factors that could cause actual results to differ materially from expected and historical results. We note these factors for investors within the meaning of Section 21E of the Exchange Act and Section 27A of the Securities Act. Readers can find them under the heading “Risk Factors” in the Form 10-K and in this Form 10-Q, and investors should refer to them. You should understand that it is not possible to predict or identify all such factors. Consequently, you should not consider any such list to be a complete set of all potential risks or uncertainties. Our filings with the SEC may be accessed at the SEC’s web site at www.sec.gov.



ii
Table of Contents

PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
 
 
December 31, 2016
 
September 30, 2016
Assets
 
(In thousands)
Current assets:
 
 
 
 
Cash and cash equivalents
 
$
102,859

 
$
119,045

Restricted cash
 
15,066

 
5,956

Investments, current portion
 
968

 
1,691

Receivables, net
 
10,223

 
15,253

Prepaid expenses and other current assets
 
20,479

 
20,004

Total current assets
 
149,595

 
161,949

Property and equipment, net
 
111,533

 
114,033

Goodwill
 
9,005

 
9,005

Other assets
 
12,040

 
12,172

Total assets
 
$
282,173

 
$
297,159

Liabilities and Shareholders’ Equity
 
 
 
 
Current liabilities:
 
 
 
 
Accounts payable and accrued expenses
 
$
30,072

 
$
42,545

Dividends payable
 
1,323

 
—

Deferred revenue
 
42,208

 
44,491

Accrued tool sets
 
2,953

 
2,938

Financing obligation, current
 
959

 
913

Income tax payable
 
1,991

 
—

Other current liabilities
 
3,649

 
3,673

Total current liabilities
 
83,155

 
94,560

Deferred tax liabilities, net
 
3,141

 
3,141

Deferred rent liability
 
8,478

 
8,987

Financing obligation
 
42,881

 
43,141

Other liabilities
 
10,375

 
10,716

Total liabilities
 
148,030

 
160,545

Commitments and contingencies (Note 11)
 

 

Shareholders’ equity:
 
 
 
 
Common stock, $0.0001 par value, 100,000,000 shares authorized, 31,490,488 shares issued and 24,625,591 shares outstanding as of December 31, 2016 and 31,489,331 shares issued and 24,624,434 shares outstanding as of September 30, 2016
 
3

 
3

Preferred stock, $0.0001 par value, 10,000,000 shares authorized; 700,000 shares of Series A Convertible Preferred Stock issued and outstanding as of December 31, 2016, liquidation preference of $100 per share, and 700,000 shares issued and outstanding as of September 30, 2016
 
—

 
—

Paid-in capital - common
 
183,161

 
182,615

Paid-in capital - preferred

68,853


68,820

Treasury stock, at cost, 6,864,897 shares as of December 31, 2016 and September 30, 2016
 
(97,388
)
 
(97,388
)
Retained deficit
 
(20,501
)
 
(17,454
)
Accumulated other comprehensive income

15


18

Total shareholders’ equity
 
134,143

 
136,614

Total liabilities and shareholders’ equity
 
$
282,173

 
$
297,159

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

1
Table of Contents

UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (LOSS) (UNAUDITED)

 
 
Three Months Ended December 31,
 
 
2016
 
2015
 
 
(In thousands, except per share amounts)
Revenues
 
$
84,179

 
$
89,773

Operating expenses:
 
 
 
 
Educational services and facilities
 
47,154

 
49,652

Selling, general and administrative
 
35,638

 
42,314

Total operating expenses
 
82,792

 
91,966

Income (loss) from operations
 
1,387

 
(2,193
)
Other (expense) income:
 
 
 
 
Interest expense, net
 
(749
)
 
(817
)
Equity in earnings of unconsolidated affiliates
 
128

 
135

Other income
 
120

 
254

Total other expense, net
 
(501
)
 
(428
)
Income (loss) before income taxes
 
886

 
(2,621
)
Income tax expense (benefit)
 
2,610

 
(941
)
Net loss
 
$
(1,724
)
 
$
(1,680
)
Preferred stock dividends

1,323


—

Loss available for distribution

$
(3,047
)

$
(1,680
)
 
 
 
 
 
Earnings (loss) per share:
 
 
 
 
Net loss per share - basic
 
$
(0.12
)

$
(0.07
)
Net loss per share - diluted
 
$
(0.12
)

$
(0.07
)
Weighted average number of shares outstanding:
 
 
 
 
Basic
 
24,625

 
24,234

Diluted
 
24,625

 
24,234

Cash dividends declared per common share
 
$
—

 
$
0.02


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

2
Table of Contents

UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (UNAUDITED)



Three Months Ended December 31,
 

2016

2015
 

(In thousands, except per share amounts)
Net loss

$
(1,724
)

$
(1,680
)
Other comprehensive loss (net of tax):




Equity interest in investee's unrealized losses on hedging derivatives, net of taxes(1)

(3
)

(1
)
Comprehensive loss

$
(1,727
)

$
(1,681
)
(1)The tax effect during the three months ended December 31, 2016 and 2015 was not significant.


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


3
Table of Contents

UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY (UNAUDITED)

 
 
Common Stock
 
Preferred Stock
 
Paid-in
Capital - Common
 
Paid-in
Capital - Preferred
 
Treasury Stock
 
Retained
Earnings (Deficit)
 
Accumulated Other Comprehensive Income (Loss)
 
Total
Shareholders’
Equity
 
 
Shares
 
Amount
 
Shares
 
Amount
 
 
Shares
 
Amount
 
 
 
(In thousands)
Balance as of September 30, 2016
 
31,489


$
3


700


$
—


$
182,615


$
68,820


6,865


$
(97,388
)

$
(17,454
)

$
18


$
136,614

Net loss
 
—


—


—


—


—


—


—


—


(1,724
)

—


(1,724
)
Issuance of Series A Convertible Preferred Stock
 
—


—


—


—


—


33


—


—


—


—


33

Issuance of common stock under employee plans
 
2


—


—


—


—


—


—


—


—


—


—

Shares withheld for payroll taxes
 
(1
)

—


—


—


(2
)

—


—


—


—


—


(2
)
Stock-based compensation
 
—


—


—


—


548


—


—


—


—


—


548

Preferred stock dividends
 
—


—


—


—


—


—


—


—


(1,323
)

—


(1,323
)
Equity interest in investee's unrealized losses on hedging derivatives, net of tax
 
—


—


—


—


—


—


—


—


—


(3
)

(3
)
Balance as of December 31, 2016
 
31,490


$
3


700


$
—


$
183,161


$
68,853


6,865


$
(97,388
)

$
(20,501
)

$
15


$
134,143


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

4
Table of Contents

UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
 
 
Three Months Ended December 31,
 
 
2016
 
2015
 
 
(In thousands)
Cash flows from operating activities:
 
 
 
 
Net loss
 
$
(1,724
)
 
$
(1,680
)
Adjustments to reconcile net income to net cash provided by operating activities:
 
 
Depreciation and amortization
 
3,639

 
3,582

Amortization of assets subject to financing obligation
 
670

 
801

Amortization of held-to-maturity investments
 
3

 
199

Bad debt expense
 
249

 
482

Stock-based compensation
 
548

 
912

Deferred income taxes
 
—

 
342

Equity in earnings of unconsolidated affiliates
 
(128
)
 
(135
)
Training equipment credits earned, net
 
(246
)
 
(100
)
(Gain) loss on disposal of property and equipment
 
(16
)
 
25

Changes in assets and liabilities:
 
 
 
 
Restricted cash
 
(11,147
)
 
(123
)
Receivables
 
2,574

 
463

Prepaid expenses and other current assets
 
(362
)
 
(1,492
)
Other assets
 
—

 
(79
)
Accounts payable and accrued expenses
 
(12,644
)
 
(5,122
)
Deferred revenue
 
(2,283
)
 
1,610

Income tax payable/receivable
 
4,198

 
(2,714
)
Accrued tool sets and other current liabilities
 
78

 
(104
)
Deferred rent liability
 
(509
)
 
(449
)
Other liabilities
 
(304
)
 
29

Net cash used in operating activities
 
(17,404
)
 
(3,553
)
Cash flows from investing activities:
 
 
 
 
Purchase of property and equipment
 
(1,441
)
 
(2,626
)
Proceeds received upon maturity of investments
 
720

 
9,555

Change in note receivable
 
—

 
(250
)
Capitalized costs for intangible assets
 
—

 
(250
)
Return of capital contribution from unconsolidated affiliate
 
118

 
119

Restricted cash: proprietary loan program
 
2,037

 
1,151

Net cash provided by investing activities
 
1,434

 
7,699

Cash flows from financing activities:
 
 
 
 
Payment of common stock cash dividends
 
—

 
(970
)
Payment of financing obligation
 
(214
)
 
(169
)
Payment of payroll taxes on stock-based compensation through shares withheld
 
(2
)
 
(2
)
Net cash used in financing activities
 
(216
)
 
(1,141
)
Net increase (decrease) in cash and cash equivalents
 
(16,186
)
 
3,005

Cash and cash equivalents, beginning of period
 
119,045

 
29,438

Cash and cash equivalents, end of period
 
$
102,859

 
$
32,443


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






5
Table of Contents



UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED), continued
 
 
Three Months Ended December 31,
 
 
2016
 
2015
 
 
(In thousands)
Supplemental disclosure of cash flow information:
 
 
 
 
Taxes paid (refunds received)
 
$
(1,587
)
 
$
1,431

Interest paid
 
$
852

 
$
863

Training equipment obtained in exchange for services
 
$
346

 
$
533

Depreciation of training equipment obtained in exchange for services
 
$
330

 
$
302

Change in accrued capital expenditures during the period
 
$
204

 
$
1,589

Dividends payable
 
$
1,323

 
$
—

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

6
Table of Contents

UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)




1.    Nature of the Business

We are the leading provider of postsecondary education for students seeking careers as professional automotive, diesel, collision repair, motorcycle and marine technicians as measured by total average undergraduate full-time student enrollment and graduates. We offer undergraduate degree or diploma programs at 12 campuses across the United States under the banner of several well-known brands, including Universal Technical Institute, Motorcycle Mechanics Institute and Marine Mechanics Institute and NASCAR Technical Institute. We also offer manufacturer specific advanced training (MSAT) programs, including student-paid electives, at our campuses and manufacturer or dealer sponsored training at certain campuses and dedicated training centers.

We work closely with leading original equipment manufacturers (OEMs) in the automotive, diesel, motorcycle and marine industries to understand their needs for qualified service professionals. Revenues generated from our schools consist primarily of tuition and fees paid by students. To pay for a substantial portion of their tuition, the majority of students rely on funds received from federal financial aid programs under Title IV Programs of the Higher Education Act of 1965, as amended, as well as from various veterans benefits programs. For further discussion, see Note 2 "Summary of Significant Accounting Policies - Concentration of Risk" and Note 19 “Government Regulation and Financial Aid” included in our 2016 Annual Report on Form 10-K filed with the SEC on November 30, 2016.
2.    Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, our condensed consolidated financial statements do not include all the information and footnotes required by GAAP for complete financial statements. Normal and recurring adjustments considered necessary for a fair statement of the results for the interim periods have been included. Operating results for the three months ended December 31, 2016 are not necessarily indicative of the results that may be expected for the year ending September 30, 2017. The accompanying condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in our 2016 Annual Report on Form 10-K filed with the SEC on November 30, 2016.

The unaudited condensed consolidated financial statements include the accounts of Universal Technical Institute, Inc. and our wholly owned subsidiaries. All significant intercompany transactions and balances have been eliminated.

The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates.

Historically, we have calculated income tax expense for interim periods based on estimated annual effective tax rates. These rates have been derived, in part, from expected income before taxes for the year. However, authoritative accounting guidance indicates that companies should not apply the estimated annual tax rate to interim financial results if the estimated annual tax rate is not reliably predictable. We are not able to reasonably estimate the annual effective tax rate for the year ending September 30, 2017 because small fluctuations in our earnings before taxes could result in a material change in the estimated annual effective tax rate based on our current projections. Therefore, for the three months ended December 31, 2016, we calculated income taxes using the actual income tax rate for the respective periods.

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



Restricted Cash

Restricted cash includes the funds transferred in advance of loan purchases under our proprietary loan program. Restricted cash also includes funds held for students from Title IV financial aid program funds that result in credit balances on a student’s account. During the three months ended December 31, 2016, we renegotiated certain of the surety bonds that our insurers issue on behalf of our campuses and admissions representatives with multiple states, which are required to maintain authorization to conduct our business. As part of these negotiations, we collateralized $11.5 million in bonds, which is included in restricted cash in our condensed consolidated balance sheet. Changes in restricted cash that represent funds held for students or that result from changes in the collateralization required for surety bonds as described above are included in cash flows from operating activities on our condensed consolidated statements of cash flows because these restricted funds are related to the core activity of our operations.

3.    Recent Accounting Pronouncements
Recently Adopted Accounting Pronouncements
In March 2016, the Financial Accounting Standards Board (FASB) issued guidance intended to simplify several areas of accounting for share-based compensation arrangements, including the income tax impact, classification on the statement of cash flows and forfeitures. The guidance is effective for annual periods, including interim periods within those periods, beginning after December 15, 2016, with early adoption permitted. We adopted this guidance as of October 1, 2016; the adoption had an immaterial impact on our results of operations, financial condition and financial statement disclosures.
In April 2015, the FASB issued guidance related to customers' accounting for fees paid in a cloud computing arrangement. The guidance provides clarification on whether a cloud computing arrangement includes a software license. If an arrangement includes a software license, then the software license element is accounted for consistent with the acquisition of other such licenses. If the arrangement does not include a software license, the arrangement is accounted for as a service contract. Entities have the option of adopting the guidance retrospectively or prospectively. We adopted the guidance prospectively as of October 1, 2016; the adoption had an immaterial impact on our results of operations, financial condition and financial statement disclosures.

In November 2015, the FASB issued guidance which simplifies the balance sheet classification of deferred taxes. The guidance requires that all deferred tax assets and liabilities, along with any related valuation allowance, be classified as noncurrent on the balance sheet. This guidance is effective for public business entities for annual periods, and for interim periods within those periods, beginning after December 15, 2016, with early adoption permitted. We adopted this guidance as of October 1, 2016; the adoption had no impact on our results of operations, financial condition or financial statement disclosures.

In February 2015, the FASB issued guidance which changes the analysis that a reporting entity must perform to determine whether it should consolidate certain types of legal entities. Specifically, the amendments (1) modify the evaluation of whether limited partnerships with similar legal entities are variable interest entities (VIEs) or voting interest entities, (2) eliminate the presumption that a general partner should consolidate a limited partnership, (3) affect the consolidation analysis of reporting entities that are involved with VIEs, particularly those that have fee arrangements and related party relationships and (4) provide a scope exception from consolidation guidance for reporting entities with interests in legal entities that are required to comply with or operate in accordance with requirements that are similar to those in Rule 2a-7 of the Investment Company Act of 1940 for registered money market funds. Entities have the option of using a full or modified retrospective approach to adopt the guidance. We adopted this guidance as of October 1, 2016. The guidance had no impact on prior acquisitions.

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



Recently Issued Accounting Pronouncements
    
In January 2017, the FASB issued guidance which clarifies the definition of a business. The new standard is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017. Early adoption is permitted and the standard is to be applied on a prospective basis to purchases or disposals of a business or an asset. We are currently evaluating the impact that the standard will have on our results of operations, financial condition and financial statement disclosures.
    
In August 2016, the Financial Accounting Standards Board (FASB) issued guidance which clarifies how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The new standard is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017, and early adoption is permitted. We are currently evaluating the impact that the standard will have on our consolidated statements of cash flows. Further, in November 2016, the FASB issued guidance that requires restricted cash and cash equivalents to be included with cash and cash equivalents on the statement cash flows. The new standard is expected to be effective for fiscal years, and interim periods within those years, beginning after December 15, 2017, with early adoption permitted. Based on the restricted cash balances on our consolidated balance sheets, we expect this standard to have an impact on the presentation of our consolidated statements of cash flows.    

In June 2016, the FASB issued guidance which changes the methodology for measuring credit losses on financial instruments and the timing of when such losses are recorded. The guidance is effective for fiscal years, including interim periods within those years, beginning after December 15, 2019, with early adoption permitted. We are currently evaluating the impact that the standard will have on our results of operations, financial condition and financial statement disclosures.
    
In February 2016, the FASB issued guidance requiring lessees to recognize a right-of-use asset and a lease liability on the balance sheet for substantially all leases, with the exception of short-term leases. Leases will be classified as either financing or operating, with classification affecting the pattern of expense recognition in the statement of income. The guidance is effective for annual periods, including interim periods within those periods, beginning after December 15, 2018, with early adoption permitted. We are currently evaluating the impact that the update will have on our results of operations, financial condition and financial statement disclosures.

In January 2016, the FASB issued guidance related to the classification and measurement of financial instruments. The guidance primarily impacts the accounting for equity investments other than those accounted for using the equity method of accounting, financial liabilities under the fair value option and the presentation and disclosure requirements for financial instruments. Additionally, the FASB clarified guidance related to the valuation allowance assessment when recognizing deferred tax assets resulting from unrealized losses on available-for-sale debt securities. The accounting for other financial instruments, such as loans, investments in debt securities and financial liabilities is largely unchanged. The guidance is effective for annual periods, including interim periods within those periods, beginning after December 15, 2017 with early adoption permitted. We are currently evaluating the adoption methods and the impact that the update will have on our results of operations, financial condition and financial statement disclosures.

In May 2014, the FASB issued guidance which outlines a single comprehensive revenue model for entities to use in accounting for revenue arising from contracts with customers. The guidance supersedes most current revenue recognition guidance, including industry-specific guidance, and requires a company to recognize revenue to depict the transfer of goods or services to a customer at an amount that reflects the consideration it expects to receive in exchange for those goods or services. Entities have the option of using either a full retrospective or modified approach to adopt the guidance. In June 2015, the FASB deferred the effective date of the guidance by one year. This guidance is now effective for annual and interim reporting periods beginning after December 15, 2017, and early adoption is now permitted for annual and interim reporting periods beginning after December 15,

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



2016. In 2016, the FASB issued further guidance that offers narrow scope improvements and clarifies certain implementation issues related to revenue recognition, including principal versus agent considerations, the identification of performance obligations and licensing. These additional updates have the same effective date as the new revenue guidance. We have begun evaluating the potential impact to our various revenue streams and continue to evaluate the adoption methods and the impact that the update will have on our results of operations, financial condition and financial statement disclosures.

4.  Postemployment Benefits

In September 2016, we completed a reduction in workforce impacting approximately 70 employees. In November 2016, we completed an additional reduction in workforce and provided postemployment benefits totaling approximately $1.3 million to approximately 75 impacted employees. Additionally, we periodically enter into agreements which provide postemployment benefits to personnel whose employment is terminated. The postemployment benefit liability, which is included in accounts payable and accrued expenses on the accompanying consolidated balance sheets, is generally paid out ratably over the terms of the agreements, which range from 1 month to 24 months, with the final agreement expiring in November 2018.

The postemployment benefit accrual activity for the year ended December 31, 2016 was as follows:
 
 
Liability Balance at
September 30, 2016
 
Postemployment
Benefit Charges
 
Cash Paid
 
Other
Non-cash (1)
 
Liability Balance at December 31, 2016
Severance
 
$
4,046

 
$
1,259

 
$
(1,706
)
 
$
(257
)
 
$
3,342

Other
 
189

 
114

 
(218
)
 
—

 
85

Total
 
$
4,235

 
$
1,373

 
$
(1,924
)
 
$
(257
)
 
$
3,427


(1) Primarily relates to the expiration of benefits not used within the time offered under the separation agreement and non-cash severance.
    
5.  Investments
We invest in pre-funded municipal bonds, which are generally secured by escrowed-to-maturity U.S. Treasury notes. Municipal bonds represent debt obligations issued by states, cities, counties and other governmental entities, which earn interest that is exempt from federal income taxes. Additionally, we invest in certificates of deposit issued by financial institutions and corporate bonds from large cap industrial and selected financial companies with a minimum credit rating of A. We have the ability and intention to hold our investments until maturity and therefore classify these investments as held-to-maturity and report them at amortized cost.
 

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



Amortized cost and fair value for investments classified as held-to-maturity at December 31, 2016 were as follows:
 
 
 
 
 
 
 
 
 
Estimated
 
 
Amortized
 
Gross Unrealized
 
Fair Market
 
 
Cost
 
Gains
 
Losses
 
Value
Due in less than 1 year:
 
 
 
 
 
 
 
 
Municipal bonds
 
$
221

 
$
—

 
$
—

 
$
221

Certificates of deposit
 
747

 
—

 
—

 
747

 
 
$
968

 
$
—

 
$
—

 
$
968


Amortized cost and fair value for investments classified as held-to-maturity at September 30, 2016 were as follows:
 
 
 
 
 
 
 
 
 
Estimated
 
 
Amortized
 
Gross Unrealized
 
Fair Market
 
 
Cost
 
Gains
 
Losses
 
Value
Due in less than 1 year:
 
 
 
 
 
 
 
 
Municipal bonds
 
$
744

 
$
—

 
$
—

 
$
744

Corporate bonds
 
200

 
—

 
—

 
200

Certificates of deposit
 
747

 
—

 
—

 
747

 
 
$
1,691

 
$
—

 
$
—

 
$
1,691

Investments are exposed to various risks, including interest rate, market and credit risk, and as a result, it is possible that changes in the values of these investments may occur and that such changes could affect the amounts reported in the condensed consolidated balance sheets and condensed consolidated statements of income (loss).

6.  Fair Value Measurements
The accounting framework for determining fair value includes a hierarchy for ranking the quality and reliability of the information used to measure fair value, which enables the reader of the financial statements to assess the inputs used to develop those measurements. The fair value hierarchy consists of three tiers: Level 1, defined as quoted market prices in active markets for identical assets or liabilities; Level 2, defined as inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, model-based valuation techniques for which all significant assumptions are observable in the market or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities and Level 3, defined as unobservable inputs that are not corroborated by market data. Any transfers of investments between levels occurs at the end of the reporting period.

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



Assets measured or disclosed at fair value on a recurring basis consisted of the following:
 
 
 
 
 
Fair Value Measurements Using
 
 
December 31, 2016
 
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Money market funds
 
$
97,271

 
$
97,271

 
$
—

 
$
—

Municipal bonds
 
221

 
—

 
221

 
—

Certificates of deposit
 
747

 
—

 
747

 
—

Total assets at fair value on a recurring basis
 
$
98,239

 
$
97,271

 
$
968

 
$
—


 
 
 
 
Fair Value Measurements Using
 
 
September 30, 2016
 
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Money market funds
 
$
108,963

 
$
108,963

 
$
—

 
$
—

Corporate bonds
 
200

 
200

 
—

 
—

Commercial Paper
 
2,501

 
—

 
2,501

 
—

Municipal bonds
 
744

 
—

 
744

 
—

Certificates of deposit
 
747

 
—

 
747

 
—

Total assets at fair value on a recurring basis
 
$
113,155

 
$
109,163

 
$
3,992

 
$
—


Our Level 2 investments are valued using readily available pricing sources which utilize market observable inputs, including the current interest rate for similar types of instruments.


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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



7.   Property and Equipment, net
Property and equipment, net consisted of the following:
 
 
 
Depreciable
Lives (in years)
 
December 31, 2016
 
September 30, 2016
Land
 
—
 
$
3,189

 
$
3,189

Buildings and building improvements
 
30-35
 
78,862

 
78,870

Leasehold improvements
 
1-28
 
39,815

 
39,539

Training equipment
 
3-10
 
92,714

 
92,601

Office and computer equipment
 
3-10
 
38,065

 
37,688

Curriculum development
 
5
 
18,743

 
18,702

Software developed for internal use
 
3-5
 
11,905

 
11,905

Vehicles
 
5
 
1,283

 
1,228

Construction in progress
 
—
 
2,794

 
2,195

 
 
 
 
287,370

 
285,917

Less accumulated depreciation and amortization
 
 
 
(175,837
)
 
(171,884
)
 
 
 
 
$
111,533

 
$
114,033


The following amounts, which are included in the above table, represent assets financed by financing obligations resulting from the build-to-suit arrangements at our Lisle, Illinois and Long Beach, California campuses:
 
 
December 31, 2016
 
September 30, 2016
Buildings and building improvements
 
$
45,816

 
$
45,816

Less accumulated depreciation and amortization
 
(6,832
)
 
(6,162
)
Assets financed by financing obligations, net
 
$
38,984

 
$
39,654


8.   Investment in Unconsolidated Affiliates

We have an equity interest in a joint venture related to the lease of our Lisle, Illinois campus facility (JV). In connection with this investment, we do not possess a controlling financial interest as we do not hold a majority of the equity interest, nor do we have the power to make major decisions without approval from the other equity member. Therefore, we do not qualify as the primary beneficiary. Accordingly, this investment is accounted for under the equity method of accounting and is included in other assets in our condensed consolidated balance sheets. We recognize our proportionate share of the net income or loss during each accounting period and any return of capital as a change in our investment.

Currently, the JV uses an interest rate cap to manage interest rate risk associated with its floating rate debt.  This derivative instrument is designated as a cash flow hedge based on the nature of the risk being hedged.  As such, the effective portion of the gain or loss on the derivative is initially reported as a component of the JV’s accumulated other comprehensive income or loss, net of tax, and is subsequently reclassified into earnings when the hedged transaction affects earnings.  Any ineffective portion of the gain or loss is recognized in the JV’s current earnings.  Due to our equity method investment in the JV, when the JV reports a current year component of other comprehensive income (OCI), we, as an investor, likewise adjust our investment account for the change in investee equity.  In addition, we adjust our OCI for our share of the JV’s currently reported OCI item. 


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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



Additionally, in February 2016, we made an investment in and entered into a licensing agreement with Pro-MECH Learning Systems, LLC (Pro-MECH), a company that provides comprehensive technician development programs and shop operations services. This investment, which included $0.7 million in cash as well as the conversion of a $0.3 million note receivable extended during the first quarter of 2016, resulted in our ownership of 25% of the outstanding equity interests of Pro-MECH. The $1.0 million investment was accounted for under the equity method of accounting. During the three months ended September 30, 2016, we determined that the carrying value of our investment was not recoverable and recorded a full impairment loss.
Investment in unconsolidated affiliates consisted of the following:
 
 
December 31, 2016
 
September 30, 2016
 
 
Carrying Value
 
Ownership Percentage
 
Carrying Value
 
Ownership Percentage
Investment in JV
 
$
4,043

 
27.972
%
 
$
4,036

 
27.972
%
 
 
 
 
 
 
 
 
 
Investment in Pro-MECH
 
$
—

 
25.000
%
 
$
—

 
25.000
%

Investment in unconsolidated affiliates included the following activity during the period:
 
 
Three Months Ended December 31,
 
 
2016
 
2015
Balance at beginning of period
 
$
4,036

 
$
3,986

Equity in earnings of unconsolidated affiliates
 
128

 
135

Return of capital contribution from unconsolidated affiliates
 
(118
)
 
(119
)
Equity interest in investee's unrealized gains (losses) on hedging derivatives, net of taxes
 
(3
)
 
(1
)
Balance at end of period
 
$
4,043

 
$
4,001


9.   Accounts Payable and Accrued Expenses
Accounts payable and accrued expenses consisted of the following:
 
 
 
December 31, 2016
 
September 30, 2016
Accounts payable
 
$
6,390

 
$
11,805

Accrued compensation and benefits
 
14,957

 
22,501

Other accrued expenses
 
8,725

 
8,239

 
 
$
30,072

 
$
42,545


10.   Income Taxes

Each reporting period, we estimate the likelihood that we will be able to recover our deferred tax assets, which represent timing differences in the recognition of revenue and certain tax deductions for accounting and tax purposes. The realization of deferred tax assets is dependent, in part, upon future taxable income. In assessing the need for a valuation allowance, we consider all available evidence, including our historical profitability and projections of future taxable income. If, based on the weight of available evidence, it is more likely than not the deferred tax assets will not be realized, we record a valuation allowance. Such valuation allowance is maintained

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



on our deferred tax assets until sufficient positive evidence exists to support its reversal in future periods. The weight given to the positive and negative evidence is commensurate with the extent to which the evidence may be objectively verified. Significant judgment is required to determine if, and the extent to which, valuation allowances should be recorded against deferred tax assets.

During the three months ended March 31, 2016, there were several pieces of negative evidence that contributed to our conclusion that a valuation allowance was appropriate against all deferred tax assets that rely upon future taxable income for their realization. As a result of our assessment, we recorded a full valuation allowance during the three months ended March 31, 2016. The amount of the deferred tax assets considered realizable, however, could be adjusted in future periods if estimates of future taxable income during the carryforward period are increased, if objective negative evidence in the form of cumulative losses is no longer present and if additional weight may be given to subjective evidence such as our projections for growth. We will continue to evaluate our valuation allowance in future periods for any change in circumstances that causes a change in judgment about the realizability of the deferred tax assets.

Under Section 382 of the Internal Revenue Code, for income tax purposes only, we underwent a change in ownership as a result of a preferred stock issuance in June 2016 which is discussed in Note 12.  Under the IRC, a change in ownership occurs when a five percent shareholder, as measured by ownership value, increases their ownership in a loss corporation by more than 50 percentage points during the defined testing period; both common and preferred stock are included in the determination of ownership value. Since the purchaser of the preferred stock acquired ownership exceeding 50 percent of our total ownership value, this transaction qualified as a change in ownership under section 382 of the IRC only. Accordingly, certain deductions and losses will be subject to an annual Section 382 limitation.  The limitation will affect the timing of when these deductions and losses can be used and, in turn, will decrease or eliminate the amount of tax refund that we anticipate to receive by carrying back the losses that we may incur in future periods.  The limitation may cause us to make income tax payments even if a pre-tax loss is recorded in future periods.  The limitation may also cause the deductions and losses to expire unused.
The components of income tax expense are as follows:
 
 
Three Months Ended December 31,
2016
 
2015
Current expense (benefit)
 
 
 
 
United States federal
 
$
2,227

 
$
(1,420
)
State
 
383

 
137

Total current expense (benefit)
 
2,610

 
(1,283
)
Deferred (benefit) expense
 
 
 
 
United States federal
 
—

 
439

State
 
—

 
(97
)
Total deferred (benefit) expense
 
—

 
342

Total provision for income taxes
 
$
2,610

 
$
(941
)


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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



The income tax provision differs from the tax that would result from application of the statutory federal tax rate of 35% to pre-tax income for the period. The reasons for the differences are as follows:
 
 
Three Months Ended December 31,
2016
 
2015
Income tax expense (benefit) at statutory rate
 
$
310

 
$
(917
)
State income taxes (benefits), net of federal tax benefit
 
107

 
(8
)
Deferred tax asset write-off related to share based compensation
 
—

 
5

Increase in valuation allowance
 
2,139

 
—

Other, net
 
54

 
(21
)
Total income tax expense (benefit)
 
$
2,610

 
$
(941
)
The components of the deferred tax assets (liabilities) recorded in the accompanying consolidated balance sheets were as follows:

 
 
December 31,
 
September 30,
2016
 
2016
Gross deferred tax assets:
 
 
 
 
Deferred compensation
 
$
2,064

 
$
2,083

Reserves and accruals
 
5,410

 
5,417

Accrued tool sets
 
1,198

 
1,188

Deferred revenue
 
23,747

 
22,326

Deferred rent liability
 
1,033

 
1,213

Depreciation and amortization of property and equipment
 
1,517

 
684

Charitable contribution carryovers
 
595

 
671

Deductions limited by Section 382
 
714

 
592

Net operating losses and tax credit carryforwards
 
380

 
479

Valuation allowance
 
(34,941
)
 
(32,828
)
Total gross deferred tax assets
 
1,717

 
1,825

Gross deferred tax liabilities:
 
 
 
 
Amortization of goodwill
 
(3,141
)
 
(3,141
)
Prepaid and other expenses deductible for tax
 
(1,717
)
 
(1,825
)
Total gross deferred tax liabilities
 
(4,858
)
 
(4,966
)
Net deferred tax assets (liabilities)
 
$
(3,141
)
 
$
(3,141
)

The following table summarizes the activity for the valuation allowance for the three months ended December 31, 2016:
Balance at
Beginning of Period
 
Additions to Income
Tax Expense
 
Write-offs
 
Balance at End of
Period
$
32,828

 
$
2,139

 
$
(26
)
 
$
34,941



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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



11.   Commitments and Contingencies
Legal
In the ordinary conduct of our business, we are periodically subject to lawsuits, demands in arbitration, investigations, regulatory proceedings or other claims, including, but not limited to, claims involving current or former students, routine employment matters, business disputes and regulatory demands. When we are aware of a claim or potential claim, we assess the likelihood of any loss or exposure. If it is probable that a loss will result and the amount of the loss can be reasonably estimated, we accrue a liability for the loss. When a loss is not both probable and estimable, we do not accrue a liability. Where a loss is not probable but is reasonably possible, including if a loss in excess of an accrued liability is reasonably possible, we determine whether it is possible to provide an estimate of the amount of the loss or range of possible losses for the claim. Because we cannot predict with certainty the ultimate resolution of the legal proceedings (including lawsuits, investigations, regulatory proceedings or claims) asserted against us, it is not currently possible to provide such an estimate. The ultimate outcome of pending legal proceedings to which we are a party may have a material adverse effect on our business, cash flows, results of operations or financial condition.

In September 2012, we received a Civil Investigative Demand (CID) from the Attorney General of the Commonwealth of Massachusetts related to a pending investigation in connection with allegations that we caused false claims to be submitted to the Commonwealth relating to student loans, guarantees and grants provided to students at our Norwood, Massachusetts campus. The CID required us to produce documents and provide written testimony regarding a broad range of our business from September 2006 to September 2012. We responded timely to the request. The Attorney General made a follow-up request for documents, and we complied with this request in February 2013.  In response to a status update request from us, the Attorney General requested and we provided in April 2015 additional documents and information related to graduate employment at our Norwood, Massachusetts campus and our policies and practices for determining graduate employment. We have not received any additional requests since April 2015. At this time, we cannot predict the eventual scope, duration, outcome or associated costs of this request, and accordingly we have not recorded any liability in the accompanying condensed consolidated financial statements.

Proprietary Loan Program
    
In order to provide funding for students who are not able to fully finance the cost of their education under traditional governmental financial aid programs, commercial loan programs or other alternative sources, we established a private loan program with a bank.

Under terms of the proprietary loan program, the bank originates loans for our students who meet our specific credit criteria with the related proceeds used exclusively to fund a portion of their tuition. We then purchase all such loans from the bank at least monthly and assume all of the related credit risk. The loans bear interest at market rates; however, principal and interest payments are not required until six months after the student completes or withdraws from his or her program. After the deferral period, monthly principal and interest payments are required over the related term of the loan.

The bank provides these services in exchange for a fee at a percentage of the principal balance of each loan and related fees. Under the terms of the related agreement, we transfer funds for loan purchases to a deposit account with the bank in advance of the bank funding the loan, which secures our related loan purchase obligation. Such funds are classified as restricted cash in our condensed consolidated balance sheet.

In substance, we provide the students who participate in this program with extended payment terms for a portion of their tuition and as a result, we account for the underlying transactions in accordance with our tuition revenue recognition policy. However, due to the nature of the program coupled with the extended payment terms

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



required under the student loan agreements, collectability is not reasonably assured. Accordingly, we recognize tuition and loan origination fees financed by the loan and any related interest income required under the loan when such amounts are collected. All related expenses incurred with the bank or other service providers are expensed as incurred within educational services and facilities expense and were approximately $0.4 million and $0.5 million for each of the three months ended December 31, 2016 and 2015, respectively. Since loan collectability is not reasonably assured, the loans and related deferred tuition revenue are not recognized in our condensed consolidated balance sheets.
The following table summarizes the impact of the proprietary loan program on our tuition revenue and interest income during the period as well as on a cumulative basis at the end of each period in our condensed consolidated statements of income (loss). Tuition revenue and interest income excluded represents amounts which would have been recognized during the period had collectability of the related amounts been assured. Amounts collected and recognized represent actual cash receipts during the period.

 
 
Three Months Ended December 31,
 
Inception
to date
 
 
2016
 
2015
 
Tuition and interest income excluded
 
$
5,992

 
$
6,646

 
$
148,707

Amounts collected and recognized
 
(1,833
)
 
(1,535
)
 
(22,918
)
Net amount excluded during the period
 
$
4,159

 
$
5,111

 
$
125,789

As of December 31, 2016, we had committed to provide loans to our students for approximately $144.0 million since inception.

The following table summarizes the activity related to the balances outstanding under our proprietary loan program, including loans outstanding, interest and origination fees, which are not recognized in our condensed consolidated balance sheets. Amounts written off represent amounts which have been turned over to third party collectors; such amounts are not included within bad debt expense in our condensed consolidated statements of income (loss).

 
 
Three Months Ended December 31,
 
 
2016
 
2015
Balance at beginning of period
 
$
75,511

 
$
74,664

Loans extended
 
6,248

 
8,283

Interest accrued
 
1,010

 
916

Amounts collected and recognized
 
(1,833
)
 
(1,535
)
Amounts written off
 
(4,353
)
 
(3,652
)
Balance at end of period
 
$
76,583

 
$
78,676


12.  Shareholders’ Equity
Common Stock
Holders of our common stock are entitled to receive dividends when and as declared by our Board of Directors and have the right to one vote per share on all matters requiring shareholder approval. On June 9, 2016, our Board of Directors voted to eliminate the quarterly cash dividend on our common stock. Any future common stock dividends require the approval of a majority of the voting power of the Series A Preferred Stock.

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



Preferred Stock

Preferred Stock consists of 10,000,000 authorized preferred shares of $0.0001 par value each. As of December 31, 2016 and September 30, 2016, 700,000 shares of Series A Convertible Preferred Stock (Series A Preferred Stock) were issued and outstanding. The liquidation preference associated with the Series A Preferred Stock was $100 per share at December 31, 2016.

Pursuant to the terms of the Securities Purchase Agreement, we may pay a cash dividend on each share of the Series A Preferred Stock at a rate of 7.5% per year on the liquidation preference then in effect (Cash Dividend). If we do not pay a Cash Dividend, the liquidation preference shall be increased to an amount equal to the current liquidation preference in effect plus an amount reflecting that liquidation preference multiplied by the Cash Dividend rate then in effect plus 2.0% per year (Accrued Dividend). Cash Dividends are payable semi-annually in arrears on September 30 and March 31 of each year, and begin to accrue on the first day of the applicable dividend period. We accrued Cash Dividends of $1.3 million at December 31, 2016.

Share Repurchase Program
On December 20, 2011, our Board of Directors authorized the repurchase of up to $25.0 million of our common stock in the open market or through privately negotiated transactions. The timing and actual number of shares purchased will depend on a variety of factors such as price, corporate and regulatory requirements and prevailing market conditions. We may terminate or limit the share repurchase program at any time without prior notice. We did not repurchase shares during the three months ended December 31, 2016. As of December 31, 2016, we have purchased 1,677,570 shares at an average price per share of $9.09 and a total cost of approximately $15.3 million under this program. Under the terms of the Purchase Agreement, stock purchases under this program require the approval of a majority of the voting power of the Series A Preferred Stock.

Stockholder Rights Agreement

On June 29, 2016, our Board of Directors authorized the adoption of a stockholder Rights Agreement to protect against any potential future use of coercive or abusive takeover techniques and to ensure that our stockholders are not deprived of the opportunity to realize the full and fair value of their investment. This agreement, which expires on June 28, 2017, mitigates the risk of any person or group from acquiring beneficial ownership of 15% or more of our outstanding common stock, or, in the case of any person or group that already owns 15% or more of the outstanding common stock, an additional 0.25%.

Under this agreement, our Board of Directors declared a dividend of one preferred stock purchase right for each outstanding share of common stock, payable to holders of record as of the close of business on July 11, 2016. Each right, which is exercisable only in the event of potential takeover, initially entitles the holder to purchase one one-thousandth of a share of a newly authorized series of participating preferred stock designated as Series E Junior Participating Preferred Stock, with a par value of $0.0001 per share and a purchase price of $9.00 per share, subject to adjustment. Each share of Series E Junior Participating Preferred Stock shall entitle the holder to 1,000 votes on all matters submitted to a vote of our stockholders.


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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



13.   Earnings per Share

Basic net income (loss) per share has historically been calculated by dividing net income (loss) attributable to common stock by the weighted average number of common shares outstanding for the period. Our Series A Preferred Stock is considered a participating security because, in the event that we pay a dividend or make a distribution on the outstanding common stock, we shall also pay each holder of the Series A Preferred Stock a dividend on an as-converted basis. As such, for periods subsequent to the issuance of the Series A Preferred Stock, which occurred on June 24, 2016, we calculated basic earnings per share pursuant to the two-class method. The two-class method is an earnings allocation formula that determines earnings per share for common stock and participating securities according to dividend and participation rights in undistributed earnings. Under this method, all earnings, distributed and undistributed, are allocated to common shares and participating securities based on their respective rights to receive dividends. The Series A Preferred Stock is not included in the computation of basic income (loss) per share in periods in which we have a net loss, as the Series A Preferred Stock is not contractually obligated to share in our net losses. Accordingly, the two-class method was not applicable for the three months ended December 31, 2016.

Diluted net income per share is calculated using the more dilutive of the as-converted or the two-class method. The two-class method assumes conversion of all potential shares other than the participating securities. Dilutive potential common shares include outstanding stock options, unvested restricted share awards and units and convertible preferred stock. The basic and diluted net income (loss) amounts are the same for the three months ended December 31, 2016 and for the three months ended December 31, 2015 as a result of the potentially dilutive securities being antidilutive due to a net loss. The following table summarizes the computation of basic and diluted income (loss) per share under the as-converted method:
 
 
 
Three Months Ended December 31,
 
 
2016
 
2015
 
 
(In thousands)
Loss available for distribution
 
$
(3,047
)
 
$
(1,680
)
 
 
 
 
 
Weighted average number of shares
 
 
 
 
Basic shares outstanding
 
24,625

 
24,234

Dilutive effect related to employee stock plans
 
—

 
—

Diluted shares outstanding
 
24,625

 
24,234

 
 
 
 
 
Net loss per share - basic
 
$
(0.12
)
 
$
(0.07
)
Net loss per share - diluted
 
$
(0.12
)
 
$
(0.07
)

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)




The following table summarizes the potential weighted average shares of common stock that were excluded from the determination of our diluted shares outstanding as they were anti-dilutive:


Three Months Ended December 31,


2016

2015


(In thousands)
Outstanding stock-based grants

665


817

Convertible preferred stock

21,021


—



21,686


817



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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



14.   Segment Information
Our principal business is providing postsecondary education. We also provide manufacturer-specific training and these operations are managed separately from our campus operations. These operations do not currently meet the quantitative criteria for segments and therefore are reflected in the Other category. Our equity method investments and other non-Postsecondary Education operations are also included within the Other category. Corporate expenses are allocated to Postsecondary Education and the Other category based on compensation expense. Depreciation and amortization includes amortization of assets subject to a financing obligation.
Summary information by reportable segment is as follows:
 
 
Three Months Ended December 31,
 
 
2016
 
2015
Revenues
 
 
 
 
Postsecondary Education
 
$
80,544

 
$
86,665

Other
 
3,635

 
3,108

Consolidated
 
$
84,179

 
$
89,773

Income (loss) from operations
 
 
 
 
Postsecondary Education
 
$
2,097

 
$
(1,216
)
Other
 
(710
)
 
(977
)
Consolidated
 
$
1,387

 
$
(2,193
)
Depreciation and amortization(1)
 
 
 
 
Postsecondary Education
 
$
4,208

 
$
4,320

Other
 
101

 
63

Consolidated
 
$
4,309

 
$
4,383

Net income (loss)
 
 
 
 
Postsecondary Education
 
$
(1,546
)
 
$
(1,172
)
Other
 
(178
)
 
(508
)
Consolidated
 
$
(1,724
)
 
$
(1,680
)
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2016
 
September 30, 2016
Goodwill
 
 
 
 
Postsecondary Education
 
$
8,222

 
$
8,222

Other
 
783

 
783

Consolidated
 
$
9,005

 
$
9,005

Total assets
 
 
 
 
Postsecondary Education
 
$
274,437

 
$
289,688

Other
 
7,736

 
7,471

Consolidated
 
$
282,173

 
$
297,159

(1) Excludes depreciation of training equipment obtained in exchange for services of $0.3 million and $0.3 million for the three months ended December 31, 2016 and 2015, respectively.

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UNIVERSAL TECHNICAL INSTITUTE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
($’s in thousands, except per share amounts)



15.  Government Regulation and Financial Aid

State Authorization and Regulation
    
On December 16, 2016, the Massachusetts Division of Professional Licensure published disclosure and business practice regulations applicable to proprietary schools operating in or recruiting from Massachusetts.  As published, certain of the regulations are effective immediately and others become effective through January 1, 2018. The disclosure obligations under the new regulations are similar to those currently required by Massachusetts. The regulations also require various business practice changes including, among other items, ethics training for admissions representatives, creation of program outlines separate from existing catalogs, changes to refund requirements for students who begin school with pending financial aid and changes to enrollment agreements to reflect the refund policy change. We are working to comply with the various regulations.

Accreditation

As of September 30, 2016, two programs in the automotive and automotive/diesel/industrial divisions at our Rancho Cucamonga, California campus did not achieve the graduation benchmarks set by the Accrediting Commission of Career Schools and Colleges and were placed on outcomes reporting. We plan to begin offering our Automotive Technology and Diesel Technology II curricula at this campus in 2017, subject to approval by state regulators; as part of this rollout, the below-benchmark programs will be discontinued.

Regulation of Federal Student Financial Aid Programs

On January 9, 2017, the Department of Education (ED) issued to our schools final versions of the first set of debt to earnings rates under the new gainful employment rule. The final rates were consistent with the draft rates previously discussed in our 2016 Annual Report on Form 10-K filed with the SEC on November 30, 2016, with nine of our 12 educational programs achieving passing rates and the other three programs in the zone.

On December 6, 2016, we were advised by ED that our applications for Title IV program participation recertification with respect to our Universal Technical Institute of Arizona and Universal Technical Institute of Phoenix institutions had been processed. The Universal Technical Institute of Arizona institution has received its program participation agreement which places the institution on provisional certification until March 31, 2018, based on an open ED program review from April 2015 for which we have not yet received a report. As a result of the institution's placement on provisional certification, ED requires that we apply for and receive approval prior to awarding or disbursing Title IV aid for any new locations or new programs.

We were advised to expect a standard, non-provisional program participation agreement for the Universal Technical Institute of Phoenix institution with an expiration date of March 31, 2018, and we are currently awaiting the new agreement. This timeframe has been designed to allow for participation alignment of all three of our institutions, as our Universal Technical Institute of Texas institution is also set to expire on March 31, 2018. We will submit recertification applications for all of our institutions in December 2017 as required.

On November 1, 2016, ED published final regulations establishing new rules regarding, among other things, the ability of borrowers to obtain discharges of their obligations to repay certain Title IV loans and for ED to initiate a proceeding to collect from the institution the discharged and returned amounts and the extensive list of circumstances that may require institutions to provide letters of credit or other financial protection to ED. The new regulations have a general effective date of July 1, 2017.


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Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis should be read in conjunction with the consolidated financial statements and related notes included in this report and those in our 2016 Annual Report on Form 10-K filed with the SEC on November 30, 2016. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those anticipated in such forward-looking statements as a result of certain factors, including but not limited to those described under “Risk Factors” in our 2016 Annual Report on Form 10-K and included in Part II, Item 1A of this report. See also "Special Note Regarding Forward-Looking Statements" on page ii of this report.


Overview

We are the leading provider of postsecondary education for students seeking careers as professional automotive, diesel, collision repair, motorcycle and marine technicians as measured by total average undergraduate enrollment and graduates. We offer undergraduate degree or diploma programs at 12 campuses across the United States. We also offer MSAT programs, including student-paid electives, at our campuses and manufacturer or dealer sponsored training at certain campuses and dedicated training centers. We have provided technical education for 52 years.

We work closely with leading OEMs in the automotive, diesel, motorcycle and marine industries to understand their needs for qualified service professionals. Through our relationships with OEMs, we are able to continuously refine and expand our programs and curricula. We believe our industry-oriented educational philosophy and national presence have enabled us to develop valuable industry relationships, which provide us with significant competitive strength and support our market leadership. We are a primary, and often the sole, provider of MSAT programs, and we have relationships with over 30 OEMs. 
    
Participating manufacturers typically assist us in the development of course content and curricula, while providing us with vehicles, equipment, specialty tools and parts at reduced prices or at no charge. In some instances they offer tuition reimbursement and other hiring incentives to our graduates. Our collaboration with OEMs enables us to provide highly specialized education to our students, resulting in enhanced employment opportunities and the potential for higher wages for our graduates. Our industry partners and their dealers benefit from a supply of technicians who are certified or credentialed by the manufacturer as graduates of the MSAT programs. The MSAT programs offer a cost-effective alternative for sourcing and developing technicians for both OEMs and their dealers. These relationships also support the development of incremental revenue opportunities from training the OEMs’ existing employees.


2017 Overview

Operations

Lower student population levels as we began 2017 and fewer new student starts during the period resulted in a decline of 9.8% in our average undergraduate full-time student enrollment to approximately 12,000 students for the three months ended December 31, 2016. We started approximately 1,400 students during the three months ended December 31, 2016, which was a decrease of 22.2% from the prior year comparable period.

Several factors continue to challenge our ability to start new students, including the following:

•
Unemployment; during periods when the unemployment rate declines or remains stable as it has in recent years, prospective students have more employment options;

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•
The state of the general macro-economic environment and its impact on price sensitivity and the ability and willingness of students and their families to incur debt;
•
Adverse media coverage, legislative hearings, regulatory actions and investigations by attorneys general and various agencies related to allegations of wrongdoing on the part of other companies within the education and training services industry, which have cast the industry in a negative light; and
•
Competition for prospective students continues to increase from within our sector and from market employers, as well as with traditional post-secondary educational institutions.
In response to these challenges, we continue to focus on our key strategies. We continue to add and renew contracts with our OEM partners as well as other employers to provide career opportunities and tuition reimbursement for our graduates. We are seeking opportunities to expand into new geographic markets either organically or through strategic acquisitions. Additionally, we plan to begin offering two new programs, welding and CNC (computer numeric control) machining, in 2017. We work to help students choose course and program structures that make getting an education more affordable and to balance our scholarship offerings with increased financial support from employers of our graduates. We are continuing our initiative designed to shift perceptions and build advocacy with key policy makers and influencers. Finally, we remain focused on operating our business as efficiently as possible and managing discretionary operating costs. In September 2016, we implemented a Financial Improvement Plan (the Plan), the first steps of which were reductions in workforce impacting approximately 70 employees at our corporate office and approximately 75 employees at our campus locations. We expect the Plan to deliver $25 million to $30 million in annualized cost savings coming from the reduction in our workforce, changes to our marketing strategy and admissions structure and a number of process improvement initiatives.
   
ED published guidance in November 2015 that eliminated certain restrictions on incentive compensation for admissions representatives. Specifically, ED reconsidered its previous interpretation and stated that its regulations do not prohibit compensation for admissions representatives that is based upon students’ graduation from, or completion of, educational programs.  Compensation based on enrolling students, however, continues to be prohibited. Please see further discussion in “Business - Regulatory Environment - Regulation of Federal Student Financial Aid Programs - Incentive Compensation” included in our 2016 Annual Report on Form 10-K filed with the SEC on November 30, 2016. We have begun making adjustments to the compensation practices for our admissions representatives which we believe will be compliant with ED's November 2015 guidance. The transition period for the new compensation structure will continue through calendar year 2018. We will continue to evaluate other compensation options under these regulations and guidance.
    
Our revenues for the three months ended December 31, 2016 were $84.2 million, a decline of $5.6 million, or 6.2%, from the comparable period in the prior year. We had operating income of $1.4 million compared to an operating loss of $2.2 million for the same period in the prior year. The improvement in our operating results was due primarily to decreases in compensation, advertising, supplies and maintenance and tools and training aids expenses. These decreases were partially offset by the decline in revenues, which were negatively impacted by the decline in our average undergraduate full-time student enrollment and a greater-than-expected utilization of our proprietary loan program. We incurred a net loss of $1.7 million during both periods. During the three months ended December 31, 2016, net loss was impacted by the determination in the prior year that a valuation allowance on our deferred tax assets was necessary, which impacted income tax expense by $2.1 million. During the three months ended December 31, 2015, we recorded an income tax benefit of $0.9 million.

Automotive Technology and Diesel Technology II Integration
    
We currently offer the Automotive Technology and Diesel Technology II curricula at our Avondale, Arizona; Dallas/Ft. Worth, Texas; Long Beach, California; Orlando, Florida and Sacramento, California campuses. We plan to offer this curricula at our Rancho Cucamonga, California campus in 2017.

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Graduate Employment

Our consolidated graduate employment rate for our 2016 graduates during the three months ended December 31, 2016 is consistent with the rate at the same time in the prior year. The rate has improved slightly for our Automotive and Diesel Technology and Collision Repair programs, while the rate has declined for our Marine and Motorcycle programs.

Regulatory Environment

State Authorization and Regulation
    
On December 16, 2016, the Massachusetts Division of Professional Licensure published disclosure and business practice regulations applicable to proprietary schools operating in or recruiting from Massachusetts.  As published, certain of the regulations are effective immediately and others become effective through January 1, 2018. The disclosure obligations under the new regulations are similar to those currently required by Massachusetts. The regulations also require various business practice changes including, among other items, ethics training for admissions representatives, creation of program outlines separate from existing catalogs, changes to refund requirements for students who begin school with pending financial aid and changes to enrollment agreements to reflect the refund policy change. We are working to comply with the various regulations. These requirements could create additional compliance challenges and impose additional costs on our institutions, or could require changes to our current business practices.    

Accreditation

As of September 30, 2016, two programs in the automotive and automotive/diesel/industrial divisions at our Rancho Cucamonga, California campus did not achieve the graduation benchmarks set by the Accrediting Commission of Career Schools and Colleges and were placed on outcomes reporting. We plan to begin offering our Automotive Technology and Diesel Technology II curricula at this campus in 2017, subject to approval by state regulators; as part of this rollout, the below-benchmark programs will be discontinued.

Regulation of Federal Student Financial Aid Programs

On January 9, 2017, the Department of Education (ED) issued to our schools final versions of the first set of debt to earnings rates under the new gainful employment rule. The final rates were consistent with the draft rates previously discussed in our 2016 Annual Report on Form 10-K filed with the SEC on November 30, 2016, with nine of our 12 educational programs achieving passing rates and the other three programs in the zone.

On December 6, 2016, we were advised by ED that our applications for Title IV program participation recertification with respect to our Universal Technical Institute of Arizona and Universal Technical Institute of Phoenix institutions had been processed. The Universal Technical Institute of Arizona institution has received its program participation agreement which places the institution on provisional certification until March 31, 2018, based on an open ED program review from April 2015 for which we have not yet received a report. As a result of the institution's placement on provisional certification, ED requires that we apply for and receive approval prior to awarding or disbursing Title IV aid for any new locations or new programs. ED may more closely view any application we file for recertification, new locations, new or revised educational programs, acquisitions of other institutions, increases in degree level or other significant changes. Furthermore, for an institution that is provisionally certified, ED may revoke the institution's certification without advance notice or advance opportunity to challenge the action.


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We were advised to expect a standard, non-provisional program participation agreement for the Universal Technical Institute of Phoenix institution with an expiration date of March 31, 2018 and we are currently awaiting the new agreement. This timeframe has been designed to allow for participation alignment of all three of our institutions, as our Universal Technical Institute of Texas institution is also set to expire on March 31, 2018. We will submit recertification applications for all of our institutions in December 2017 as required.

2017 Outlook

For the year ending September 30, 2017, we expect new student starts to be down in the high-single digits. Combined with the number of students currently in school and the timing of the anticipated start growth, we expect our average student population to be down in the low-double digits as a percentage compared with the year ended September 30, 2016.  While annual tuition increases will slightly offset the decline in average students, we expect revenue to be down in the mid-single digits. We implemented a Financial Improvement Plan as previously discussed, which we expect to deliver greater than $30 million in annualized cost savings. We anticipate the Financial Improvement Plan will result in positive operating income and significantly improved EBITDA despite the decline in revenue. Capital expenditures are expected to be approximately $12.5 million to $13.5 million for the year ending September 30, 2017.

Results of Operations
The following table sets forth selected statements of operations data as a percentage of revenues for each of the periods indicated.
 
 
 
Three Months Ended December 31,
 
 
2016
 
2015
Revenues
 
100.0
 %
 
100.0
 %
Operating expenses:
 
 
 
 
Educational services and facilities
 
56.0
 %
 
55.3
 %
Selling, general and administrative
 
42.3
 %
 
47.1
 %
Total operating expenses
 
98.3
 %
 
102.4
 %
Income (loss) from operations
 
1.7
 %
 
(2.4
)%
Interest expense, net
 
(0.9
)%
 
(0.9
)%
Other income
 
0.3
 %
 
0.4
 %
Total other expense, net
 
(0.6
)%
 
(0.5
)%
Income (loss) before income taxes
 
1.1
 %
 
(2.9
)%
Income tax expense (benefit)
 
3.1
 %
 
(1.0
)%
Net loss
 
(2.0
)%
 
(1.9
)%
Preferred stock dividends
 
1.6
 %
 
—
 %
Loss available for distribution
 
(3.6
)%
 
(1.9
)%


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Three Months Ended December 31, 2016 Compared to Three Months Ended December 31, 2015

Revenues. Our revenues for the three months ended December 31, 2016 were $84.2 million, a decrease of $5.6 million, or 6.2%, as compared to revenues of $89.8 million for the three months ended December 31, 2015. Our average undergraduate full-time student enrollment decreased 9.8%, which resulted in a decrease in revenues of approximately $8.7 million. Additionally, there was one less earning day during the three months ended December 31, 2016 as compared to the three months ended December 31, 2015, which resulted in a decrease in revenues of approximately $1.4 million. The decrease was partially offset by tuition rate increases of up to 3%, depending on the program. Our revenues for the three months ended December 31, 2016 and 2015 excluded $5.0 million and $5.7 million, respectively, of tuition related to students participating in our proprietary loan program. We recognized $1.8 million and $1.5 million of revenues and interest under our proprietary loan program for the three months ended December 31, 2016 and 2015, respectively. Revenues for our Long Beach, California campus, which opened in August 2015, were $4.2 million for the three months ended December 31, 2016 as compared to $1.9 million for the three months ended December 31, 2015.

Educational services and facilities expenses. Our educational services and facilities expenses for the three months ended December 31, 2016 were $47.2 million, representing a decrease of $2.5 million as compared to $49.7 million for the three months ended December 31, 2015.

Our educational services and facilities expenses for the three months ended December 31, 2016 and 2015 for our Long Beach, California campus were $2.9 million and $2.7 million, respectively, including corporate overhead allocations of $0.2 million in each period.

The following table sets forth the significant components of our educational services and facilities expenses:
 
Three Months Ended December 31,
 
2016
 
2015
 
(In thousands)
Salaries expense
$
21,332

 
$
21,977

Employee benefits and tax
4,375

 
4,546

Bonus expense
797

 
213

Stock-based compensation
44

 
65

Compensation and related costs
26,548

 
26,801

Occupancy costs
8,939

 
9,133

Depreciation and amortization expense
3,957

 
4,052

Other educational services and facilities expense
4,458

 
5,098

Supplies and maintenance
1,687

 
2,433

Tools and training aids expense
1,565

 
2,135

 
$
47,154

 
$
49,652

Compensation and related costs decreased $0.3 million for the three months ended December 31, 2016:
•
Salaries expense was impacted by a decrease in the number of employees related to the previously discussed reductions in workforce undertaken in September and November 2016, which primarily impacted non-instructor positions and related salaries expense. The savings related to the decrease in headcount were partially offset by severance expense of $1.0 million related to the November 2016 reduction in workforce. Additionally, salaries expense for our Long Beach,

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California campus, which opened in August 2015, increased by $0.4 million as compared to the same period in the prior year.
•
Employee benefits and tax remained flat with the same period in the prior year; savings due to the reduction in employee headcount and other changes to employee benefits were largely offset by charges recorded related to the November 2016 reduction in workforce.
•
Bonus expense increased $0.6 million for the three months ended December 31, 2016. The increase in bonus expense is attributable to holiday bonuses paid to employees in December 2016 in lieu of annual merit increases.
Supplies and maintenance expense decreased $0.7 million for the three months ended December 31, 2016. The decrease was attributable to a higher level of spending in the prior year related to classroom renovations at certain campus locations and purchases related to the opening of our Long Beach, California campus, as well as increased focus on cost control initiatives during the current year.
Tools and training aids expense decreased $0.5 million for the three months ended December 31, 2016. The decrease was primarily related to a higher level of purchases in the prior year related to the opening of our Long Beach, California campus.

Selling, general and administrative expenses. Our selling, general and administrative expenses for the three months ended December 31, 2016 were $35.6 million. This represents a decrease of $6.7 million as compared to $42.3 million for the three months ended December 31, 2015.

Our selling, general and administrative expenses for the three months ended December 31, 2016 for our Long Beach, California campus were $1.9 million and $2.0 million, respectively, including corporate overhead allocations of $1.2 million in each period.

The following table sets forth the significant components of our selling, general and administrative expenses:
 
Three Months Ended December 31,
 
2016
 
2015
 
(In thousands)
Salaries expense
$
14,464

 
$
17,205

Employee benefits and tax
3,129

 
3,892

Bonus expense
990

 
1,082

Stock-based compensation
504

 
847

Compensation and related costs
19,087

 
23,026

Advertising expense
9,168

 
10,381

Other selling, general and administrative expenses
6,452

 
7,792

Bad debt expense
249

 
482

Depreciation and amortization expense
682

 
633

 
$
35,638

 
$
42,314


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Compensation and related costs decreased $3.9 million for the three months ended December 31, 2016:
•
Salaries expense decreased $2.7 million due to savings realized following the September 2016 reduction in workforce and the restructuring of our campus admissions organization in June 2016.
•
Employee benefits and tax decreased $0.8 million primarily as a result of the decrease in employee headcount.
•
Bonus expense remained flat with the prior year comparable period. Bonus expense for the three months ended December 31, 2016 included holiday bonuses paid to employees in December 2016 in lieu of annual merit increases.
Advertising expense decreased $1.2 million for the three months ended December 31, 2016. We have reduced or eliminated spending on certain channels in our media mix and increased spending on digital sources in line with our budget plan for the year.
Income taxes. Our income tax expense for the three months ended December 31, 2016 was $2.6 million, or 294.6% of pre-tax income, compared to an income tax benefit of $0.9 million, or 35.9% of pre-tax loss, for the three months ended December 31, 2015. We recognized significant tax expense during the three months ended December 31, 2016 due to the tax treatment of certain expenses anticipated to be deductible in future years. Such deductions are included in the balance of deferred tax assets, which is currently subject to a full valuation allowance. The effective income tax rate in each period also differed from the federal statutory tax rate of 35% as a result of state income taxes, net of related federal income tax benefits, and due to tax expense related to share-based compensation.

As discussed in our 2016 Annual Report on Form 10-K filed with the SEC on November 30, 2016, certain deductions and losses are subject to an annual Section 382 limitation.  The limitation will affect the timing of when these deductions and losses can be used and, in turn, will decrease or eliminate the amount of tax refund that we anticipate to receive by carrying back the losses that we may incur in future periods.  The limitation may cause us to make income tax payments even if a pre-tax loss is recorded in future periods.  The limitation may also cause the deductions and losses to expire unused.

Preferred stock dividends. On June 24, 2016, we sold 700,000 shares of Series A Preferred Stock for $70.0 million in cash, less $1.1 million in issuance costs. In accordance with the terms of the related purchase agreement, we recorded a preferred stock cash dividend of $1.3 million during the three months ended December 31, 2016.

Loss available for distribution. Loss available for distribution refers to net loss reduced by dividends on our Series A Preferred Stock. As a result of the foregoing, we reported a loss available for distribution for the three months ended December 31, 2016 of $3.0 million, as compared to $1.7 million for the three months ended December 31, 2015. 


Non-GAAP Financial Measures

Our earnings (loss) before interest, tax, depreciation and amortization (EBITDA) for the three months ended December 31, 2016 were $6.3 million as compared to $2.9 million for the three months ended December 31, 2015.

EBITDA is a non-GAAP financial measure which is provided to supplement, but not substitute for, the most directly comparable GAAP measure. We choose to disclose this non-GAAP financial measure because it

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provides an additional analytical tool to clarify our results from operations and helps to identify underlying trends. Additionally, this measure helps compare our performance on a consistent basis across time periods. To obtain a complete understanding of our performance, this measure should be examined in connection with net income determined in accordance with GAAP. Since the items excluded from this measure should be examined in connection with net income in determining financial performance under GAAP, this measure should not be considered to be an alternative to net income as a measure of our operating performance or profitability. Exclusion of items in our non-GAAP presentation should not be construed as an inference that these items are unusual, infrequent or non-recurring. Other companies, including other companies in the education industry, may calculate EBITDA differently than we do, limiting its usefulness as a comparative measure across companies. Investors are encouraged to use GAAP measures when evaluating our financial performance.

EBITDA reconciles to net loss as follows:
 
 
 
Three Months Ended December 31,
 
 
2016
 
2015
 
 
(In thousands)
Net loss
 
$
(1,724
)
 
$
(1,680
)
Interest expense, net
 
749

 
817

Income tax expense (benefit)
 
2,610

 
(941
)
Depreciation and amortization(1)
 
4,639

 
4,685

EBITDA
 
$
6,274

 
$
2,881


(1)Includes depreciation of training equipment obtained in exchange for services of $0.3 million and $0.3 million for the three months ended December 31, 2016 and 2015, respectively.

Liquidity and Capital Resources
    
Based on past performance and current expectations, we believe that our cash flows from operations, cash on hand and investments will satisfy our working capital needs, capital expenditures, commitments and other liquidity requirements associated with our existing operations as well as the expansion of programs at existing campuses through the next 12 months.

We believe that the strategic use of our cash resources includes subsidizing funding alternatives for our students. Additionally, we evaluate the repurchase of our common stock, consideration of strategic acquisitions, expansion of programs at existing campuses, opening additional campus locations and other potential uses of cash. On June 24, 2016, we issued 700,000 shares of Series A Preferred Stock for a total purchase price of $70.0 million. The proceeds from the offering are intended to be used to fund strategic long-term growth initiatives, including the expansion to new markets of campuses on a scale similar to our Long Beach, California and Dallas/Ft. Worth, Texas campuses and the creation of new programs in existing markets with under-utilized campus facilities. We may use the proceeds to fund strategic acquisitions that complement our core business. To the extent that potential acquisitions are large enough to require financing beyond cash from operations, cash and cash equivalents and investments on hand or we need capital to fund operations, new campus openings or expansion of programs at existing campuses, we may enter into a credit facility, issue debt or issue additional equity. The annual cash dividend that we anticipate paying on the Series A Preferred Stock is approximately $5.3 million per year. Additionally, to the extent that we enter into leasing transactions that result in financing obligations or capital leases, our interest expense would increase. Our aggregate cash and cash equivalents and current investments were $103.8 million as of December 31, 2016.

Our principal source of liquidity is operating cash flows and existing cash, cash equivalent and investment balances. A majority of our revenues are derived from Title IV Programs and various veterans benefits programs.

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Federal regulations dictate the timing of disbursements of funds under Title IV Programs. Students must apply for new funding for each academic year consisting of thirty-week periods. Loan funds are generally provided by lenders in two disbursements for each academic year. The first disbursement for first-time borrowers is usually received 30 days after the start of a student’s academic year and the second disbursement is typically received at the beginning of the sixteenth week from the start of the student’s academic year. Effective October 10, 2016, we began disbursing funds under the HCM1 method. To date we have not experienced and do not anticipate an adverse effect on Title IV cash flows. Under our proprietary loan program, we bear all credit and collection risk and students are not required to begin repayment until six months after the student completes or withdraws from his or her program. These factors, together with the timing of when our students begin their programs, affect our operating cash flow.

Operating Activities

Our cash used in operating activities was $17.4 million for the three months ended December 31, 2016 compared to $3.6 million for the three months ended December 31, 2015. For the three months ended December 31, 2016, changes in our operating assets and liabilities resulted in cash outflows of $20.4 million and were primarily attributable to changes in accounts payable and accrued expenses, restricted cash, income tax, receivables and deferred revenue. The decrease in accounts payable and accrued expenses resulted in a cash outflow of $12.6 million. This decrease was primarily attributable to the timing of invoices and payroll, as well as the payment of bonuses and severance benefits. The increase in restricted cash resulted in a cash outflow of $11.1 million and was primarily due to the collateralization of $11.5 million in surety bonds. The change in income tax from a receivable position to a payable position resulted in a cash inflow of $4.2 million and was primarily due to the increase in taxable income during the current period. The decrease in receivables resulted in a cash inflow of $2.6 million and was primarily due to the timing of Title IV disbursements and other cash receipts on behalf of our students. The decrease in deferred revenue resulted in a cash outflow of $2.3 million and was primarily attributable to the timing of student starts, the number of students in school and where they were at period end in relation to the completion of their program at December 31, 2016 compared to September 30, 2016.

For the three months ended December 31, 2015, changes in our operating assets and liabilities resulted in cash outflows of $8.0 million and were primarily attributable to changes in accounts payable and accrued expenses, income tax receivable and deferred revenue. The decrease in accounts payable and accrued expenses resulted in a cash outflow of $5.1 million. The decrease was primarily attributable to timing of invoices and capital expenditures. The change in income tax from a payable position to a receivable position resulted in a cash outflow of $2.7 million and was primarily due to the timing of tax payments. The increase in deferred revenue resulted in a cash inflow of $1.6 million. The increase was primarily attributable to the timing of student starts, the number of students in school and where they were at period end in relation to the completion of their program at December 31, 2015 compared to September 30, 2015.

Investing Activities

During the three months ended December 31, 2016, cash provided by investing activities was $1.4 million. We had cash inflows of $0.7 million from proceeds received upon the maturity of investments. We had cash outflows for the purchase of property and equipment of $1.4 million, primarily related to purchases of new and replacement training equipment for our ongoing operations. For the year ending September 30, 2017, we anticipate investing in capital expenditures in the range of $12.5 million to $13.5 million primarily related to maintenance of our educational facilities and tools and the expansion of programs at existing campuses.
 
During the three months ended December 31, 2015, cash provided by investing activities was $7.7 million. We had cash inflows of $9.6 million from proceeds received upon the maturity of investments. We had cash outflows for the purchase of property and equipment of $2.6 million, primarily related to the purchases of new and replacement training equipment for our ongoing operations. Additionally, we had a cash outflow of $0.3 million to issue a note receivable.

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Financing Activities

During the three months ended December 31, 2016, cash used in financing activities was $0.2 million and related primarily to payments on our financing obligations.    

During the three months ended December 31, 2015, cash used in financing activities was $1.1 million and was primarily due to the payment of cash dividends on October 5 and December 18, 2015 of $0.02 per share, totaling approximately $1.0 million.

Seasonality and Trends

Our revenues and operating results normally fluctuate as a result of seasonal variations in our business, principally due to changes in total student population and costs associated with opening or expanding our campuses. Our student population varies as a result of new student enrollments, graduations and student attrition. Historically, we have had lower student populations in our third quarter than in the remainder of our year because fewer students are enrolled during the summer months. Additionally, we have had higher student populations in our fourth quarter than in the remainder of the year because more students enroll during this period. Our expenses, however, do not vary significantly with changes in student population and revenues and, as a result, such expenses do not fluctuate significantly on a quarterly basis. We expect quarterly fluctuations in operating results to continue as a result of seasonal enrollment patterns. Such patterns may change, however, as a result of new school openings, new program introductions, increased enrollments of adult students or acquisitions. Furthermore, our revenues for the first quarter ending December 31 are impacted by the closure of our campuses for a week in December for a holiday break, during which time we do not earn revenue.

Critical Accounting Policies and Estimates

There were no other significant changes in our critical accounting policies previously disclosed in Part II, Item 7 of our 2016 Annual Report on Form 10-K filed with the SEC on November 30, 2016.

Recent Accounting Pronouncements

For information regarding recent accounting pronouncements, see Note 3 to our condensed consolidated financial statements within Part I, Item 1 of this report.

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

There have been no material changes to our market risk since September 30, 2016. For a discussion of our exposure to market risk, refer to our 2016 Annual Report on Form 10-K, filed with the SEC on November 30, 2016.

Item 4. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our Chairman of the Board and Chief Executive Officer and our Chief Financial Officer, we have evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act), pursuant to Exchange Act Rule 13a-15 as of the end of the period covered by this report. Based upon that evaluation, the Chairman of the Board and Chief Executive Officer and the Chief Financial Officer concluded that our disclosure controls and procedures as of December 31, 2016 were effective in ensuring that (i) information required to be disclosed by us in the reports that we file or submit under the Exchange Act is

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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 the 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 identified in connection with the evaluation required by Exchange Act Rule 13a-15(d) or 15d-15(d) that occurred during the three months ended December 31, 2016 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Limitations on Effectiveness of Controls and Procedures

Our management, including our Chairman of the Board and Chief Executive Officer and our Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls over financial reporting will prevent all error 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 all control systems, no evaluation of controls can provide absolute assurance that all control issues, misstatements, errors and instances of fraud, if any, within our company have been or will be prevented or 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 also can 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 that internal controls may become inadequate as a result of changes in conditions, or through the deterioration of the degree of compliance with policies or procedures.

PART II. OTHER INFORMATION

Item 1. LEGAL PROCEEDINGS
In the ordinary conduct of our business, we are periodically subject to lawsuits, demands in arbitrations, investigations, regulatory proceedings or other claims, including, but not limited to, claims involving current and former students, routine employment matters, business disputes and regulatory demands. When we are aware of a claim or potential claim, we assess the likelihood of any loss or exposure. If it is probable that a loss will result and the amount of the loss can be reasonably estimated, we would accrue a liability for the loss. When a loss is not both probable and estimable, we do not accrue a liability. Where a loss is not probable but is reasonably possible, including if a loss in excess of an accrued liability is reasonably possible, we determine whether it is possible to provide an estimate of the amount of the loss or range of possible losses for the claim. Because we cannot predict with certainty the ultimate resolution of the legal proceedings (including lawsuits, investigations, regulatory proceedings or claims) asserted against us, it is not currently possible to provide such an estimate. The ultimate outcome of pending legal proceedings to which we are a party may have a material adverse effect on our business, cash flows, results of operations or financial condition.
In September 2012, we received a Civil Investigative Demand (CID) from the Attorney General of the Commonwealth of Massachusetts related to a pending investigation in connection with allegations that we caused false claims to be submitted to the Commonwealth relating to student loans, guarantees and grants provided to students at our Norwood, Massachusetts campus. The CID required us to produce documents and provide written testimony regarding a broad range of our business from September 2006 to September 2012. We responded timely

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to the request. The Attorney General made a follow-up request for documents, and we complied with this request in February 2013. In response to a status update request from us, the Attorney General requested and we provided in April 2015 additional documents and information related to graduate employment at our Norwood, Massachusetts campus and our policies and practices for determining graduate employment. We have not received any additional requests since April 2015. At this time, we cannot predict the eventual scope, duration, outcome or associated costs of this request, and accordingly we have not recorded any liability in the accompanying condensed consolidated financial statements.
Item 1A. RISK FACTORS
In addition to the other information set forth in this report, including the information contained in Part I, Item 3, you should carefully consider the factors discussed in Part I, Item IA of our 2016 Annual Report on Form 10-K filed with the SEC on November 30, 2016, which could materially affect our business, financial condition or operating results. The risks described in this report and in our 2016 Annual Report on Form 10-K are not the only risks we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition or operating results.

Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

On December 20, 2011, our Board of Directors authorized the repurchase of up to $25.0 million of our common stock in the open market or through privately negotiated transactions. As of December 31, 2016, we have purchased an aggregate of 1,677,570 shares of our common stock for an aggregate purchase price of $15.3 million under this stock repurchase program.  During the quarter ended December 31, 2016, we made no purchases under this stock repurchase program.  Any future repurchases under this stock repurchase program require the approval of a majority of the voting power of the Series A Preferred Stock.

The following table summarizes our share repurchases to settle individual employee tax liabilities. These are not included in the repurchase plan totals as they were approved in conjunction with restricted share awards, during each period in the three months ended December 31, 2016. Shares from share repurchases in lieu of taxes are returned to the pool of shares issuable under our 2003 Incentive Compensation Plan.
ISSUER PURCHASES OF EQUITY SECURITIES
Period
 
Total Number of Shares Purchased
 
Average Price Paid per Share
 
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
 
Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans Or Programs
(In thousands)
Tax Withholdings
 
 
 
 
 
 
 
 
October 1-31, 2016
 
—

 
$
—

 
—

 
$
—

November 1-30, 2016
 
—

 
$
—

 
—

 
$
—

December 1-31, 2016
 
521

 
$
3.17

 
—

 
$
—

Total
 
521

 
$
3.17

 
—

 
$
—


Any future common stock dividends require the approval of a majority of the voting power of the Series A Preferred Stock.
Item 6. EXHIBITS

The exhibits required by Item 601 of Regulation S-K which are filed or furnished with this report, as applicable, are set forth in the Exhibit Index.

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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.

Date: February 2, 2017         

UNIVERSAL TECHNICAL INSTITUTE, INC.


By: /s/ Kimberly J. Mcwaters                 
Kimberly J. McWaters
Chairman of the Board and Chief Executive Officer

EXHIBIT INDEX
Number
 
Description
31.1
 
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. (Filed herewith.)
31.2
 
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. (Filed herewith.)
32.1
 
Certification of Chief Executive Officer pursuant to 18 U.S.C. § 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (Filed herewith.)
32.2
 
Certification of Chief Financial Officer pursuant to 18 U.S.C. § 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (Filed herewith.)
101
 
Quarterly Report on Form 10-Q for the quarter ended December 31, 2016, formatted in Extensible Business Reporting Language (XBRL): (i) Condensed Consolidated Balance Sheets; (ii) Condensed Consolidated Statements of Income (Loss); (iii) Condensed Consolidated Statements of Comprehensive Income (Loss); (iv) Condensed Consolidated Statement of Shareholders’ Equity; (v) Condensed Consolidated Statements of Cash Flows; and (v) Notes to Condensed Consolidated Financial Statements.


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