Business Context and Reporting Period
Lincoln Educational Services Corporation provides career-oriented post-secondary education through 25 schools in 15 states, serving approximately 11,515 students as of September 30, 2017. The company reports Transportation and Skilled Trades, Healthcare and Other Professions (HOPS), and Transitional segments. This unaudited Form 10-Q covers the three and nine months ended September 30, 2017, compared with the same periods in 2016.
Key Financial Metrics
| Metric | Three Months 2017 | Three Months 2016 | Nine Months 2017 | Nine Months 2016 |
|---|---|---|---|---|
| Revenue | $67.3 million | $74.3 million | $194.5 million | $213.0 million |
| Operating loss | $0.7 million | $0.7 million | $12.5 million | $10.1 million |
| Net loss | $1.5 million | $0.5 million | $19.2 million | $9.7 million |
| Loss per diluted share | $0.06 | $0.02 | $0.80 | $0.41 |
| Net cash used in operating activities | Not provided | Not provided | $16.6 million | $9.5 million |
Revenue declined 9.4% in the quarter and 8.7% year to date. Operating margins were approximately negative 1.1% in the quarter and negative 6.4% year to date, compared with negative 0.9% and negative 4.8%, respectively, in the prior-year periods. Net margins were approximately negative 2.2% and negative 9.9%, compared with negative 0.6% and negative 4.5%.
At September 30, 2017, cash and cash equivalents were $7.3 million, including $7.2 million of restricted cash. Management stated that total cash, cash equivalents and restricted cash were $14.5 million, with approximately $7.5 million of availability under the revolving facility. Total assets were $117.6 million and stockholders’ equity was $37.1 million.
Debt consisted of $17.5 million outstanding under the new credit facility, net of $0.8 million of deferred financing fees, compared with $44.3 million under the prior term loan at December 31, 2016. Letters of credit totaled $7.2 million. The company was in compliance with its credit facility covenants at quarter-end.
Material Changes Versus the Prior Comparable Period
- Quarterly revenue decreased $7.0 million, primarily because Transitional campuses no longer accepted new students; that segment represented approximately 95% of the decline.
- Nine-month revenue decreased $18.5 million, with approximately 90% of the decline attributable to the Transitional segment. Total student starts fell 12.5% year to date, to approximately 9,900.
- Transportation and Skilled Trades revenue was essentially flat year to date at $131.2 million, but operating income fell 24.8% to $9.0 million, driven partly by higher bad debt and sales and marketing costs.
- HOPS revenue decreased 3.2% year to date to $55.2 million, and the segment shifted from $2.6 million of operating income to a $1.0 million operating loss.
- Transitional revenue declined 67.3% year to date to $8.1 million as campuses were closed or taught out. Its operating loss improved from $7.1 million to $3.9 million.
- Selling, general and administrative expense declined 3.5% year to date, but increased to 56.2% of revenue from 53.1% because of the company’s high fixed-cost structure. Bad debt expense and sales and marketing spending increased.
- Net interest expense increased $2.1 million year to date to $6.6 million, primarily because of a $2.2 million non-cash write-off of deferred financing fees related to refinancing.
- The company sold two West Palm Beach properties for $15.8 million, recording a $1.5 million gain and repaying an associated $8.0 million short-term loan.
Cash Flow, Liquidity, Outlook and Risks
Operating cash use increased to $16.6 million from $9.5 million. Investing activities provided $10.9 million, including $15.5 million of property-sale proceeds, while capital expenditures were $3.8 million. Financing activities used $8.1 million after substantial debt repayments and refinancing activity.
The secured revolving credit facility provides up to $55 million and matures May 31, 2020. Tranche A borrowings bear interest at the greater of prime plus 2.50% or 6.00%; the reported rate on outstanding borrowings was 6.75% at September 30, 2017. The facility is secured by substantially all personal property and mortgages on four properties, and requires minimum quarterly average deposits of $5 million. A 1% change in interest rates would affect annual interest expense by approximately $0.2 million.
Management believes available cash, borrowing capacity, asset sales and operating actions will fund operations for the next twelve months and the foreseeable future. Capital expenditures are expected to approximate 2% of 2017 revenue. No specific revenue or earnings guidance was provided.
Key risks include declining enrollment, seasonal dependence on the high-school recruiting cycle, substantial reliance on Title IV funding, student loan availability and collections, regulatory changes, high fixed costs, bad debt exposure, operating losses, liquidity needs and compliance with credit facility covenants. Student loan commitments were $46.9 million at September 30, 2017, net of interest obligations of $34.9 million. Operating lease obligations totaled $83.4 million, and surety bonds totaled approximately $14.3 million.
The company abandoned its plan to divest HOPS and intends to retain the remaining campuses after closing seven underperforming locations. Brockton and Lowell were being taught out and were expected to close in December 2017. The company adopted the simplified goodwill impairment guidance without impact and planned to adopt the new revenue recognition standard on January 1, 2018 using the modified retrospective method; management expected no significant change to tuition and student-fee revenue timing but was still evaluating book-related performance obligations and contract assets.
The DOE’s final program review determination for the Union, New Jersey campus resulted in a $175 liability, which was paid. The company reported that none of its institutions had a 2014 federal cohort default rate of 30% or more. Pending legal proceedings were not expected by management to have a material adverse effect.
After quarter-end, on November 8, 2017, the company entered into new employment agreements with the chief executive officer and chief financial officer and a change-in-control agreement with another executive.
Important Facts for Investors to Verify
- Whether enrollment, student starts and cash collections stabilize after the Transitional campus closures.
- Whether the company can generate sufficient operating cash flow without recurring property sales or additional borrowings.
- Availability under, collateral requirements for, and covenant compliance under the Sterling National Bank facility.
- Trends in bad debt expense, accounts receivable, student loan commitments and Title IV funding.
- Execution and financial effects of the HOPS restructuring and the planned Brockton and Lowell closures.
- Impact of the January 1, 2018 revenue recognition adoption, including any retained-earnings adjustment or contract-asset changes.
- Future property monetization prospects and the company’s ability to meet its substantial lease and other contractual obligations.