LINCOLN EDUCATIONAL SERVICES CORP annual report, FY2020

Lincoln Educational Services Corporation — FY2020 Form 10-K Summary

Business Context and Reporting Period

Lincoln Educational Services Corporation provides career-oriented post-secondary education through 22 campuses in 14 states under the Lincoln Technical Institute, Lincoln College of Technology, Lincoln Culinary Institute and Euphoria Institute brands. Programs focus on automotive technology, skilled trades, healthcare, hospitality and information technology. The filing covers the fiscal year ended December 31, 2020, with comparisons to fiscal 2019.

Average enrollment increased 6.8% to 11,729 students, excluding students on COVID-19-related leave. Year-end enrollment was 12,217 students, excluding 102 students on leave of absence. The company reports Transportation and Skilled Trades and Healthcare and Other Professions segments; no campuses were classified as Transitional at year-end.

Financial Performance and Key Metrics

Metric	FY2020	FY2019	Change
Revenue	$293.1 million	$273.3 million	7.2% increase
Operating income	$14.8 million	$5.2 million	182.2% increase
Income before taxes	$13.5 million	$2.3 million	Material increase
Net income	$48.6 million	$2.0 million	Material increase
Income available to common shareholders	$47.2 million	$2.0 million	Material increase
Basic and diluted EPS	$1.49	$0.08	Increase
Operating margin	5.0%	1.9%	Improved
Net margin	16.6%	0.7%	Improved
Net cash provided by operating activities	$23.5 million	$1.0 million	Increase

The unusually large 2020 net income included a $35.1 million income tax benefit, primarily from releasing the valuation allowance on deferred tax assets. This benefit was not an operating cash inflow and substantially affected reported earnings and net margin.

Educational services and facilities expense declined 1.1% to $122.2 million, representing 41.7% of revenue versus 45.2% in 2019. Selling, general and administrative expense increased 7.6% to $156.2 million, or 53.3% of revenue versus 53.1%, reflecting higher administrative costs, marketing investment and bad debt expense. Bad debt expense was 9.2% of revenue, compared with 7.6% in 2019.

Transportation and Skilled Trades revenue increased 7.1% to $207.4 million and operating income increased 56.8% to $34.5 million. Healthcare and Other Professions revenue increased 7.6% to $85.7 million and operating income increased 45.9% to $11.1 million. Corporate expenses increased to $30.7 million from $24.3 million.

Liquidity, Cash Flow and Capital Structure

Cash and cash equivalents were $38.0 million at December 31, 2020, compared with $23.6 million at December 31, 2019.
Management reported net cash of $20.8 million, calculated after subtracting credit-facility borrowings, compared with $4.6 million in 2019.
The company stated that it had approximately $21.0 million of additional borrowing capacity under its credit facility.
Investing cash outflow was $5.5 million, including $5.6 million of capital expenditures. Capital expenditures were approximately 2% of revenue and are expected to remain approximately 2% of revenue in 2021.
Financing cash outflow was $18.6 million, including $17.0 million of net debt repayments and $1.4 million of Series A preferred stock dividends.
Credit-facility borrowings totaled $17.8 million at year-end, down from $34.8 million, with $2.0 million classified as current debt. The facility is secured by substantially all company assets.
The company was in compliance with its debt covenants at December 31, 2020. Covenants include minimum tangible net worth, fixed-charge coverage, leverage and minimum quarterly average deposits of $5.0 million.
Outstanding letters of credit totaled $4.0 million. Surety bonds required for state authorization totaled approximately $12.3 million.
The company had $21.7 million of outstanding student financing commitments that are generally contingent on students completing their programs.

Material Changes Versus FY2019

Revenue growth was driven by a 10.7% increase in student starts and a 6.8% increase in average enrollment.
Operating profitability improved substantially because of revenue growth, lower facility-related costs during campus closures and reduced interest expense.
Net interest expense declined 56.9% to $1.3 million, primarily because of lower interest rates and reduced debt balances.
Accounts receivable increased to $30.0 million from $20.7 million, while the allowance for uncollectible accounts increased to $25.2 million from $18.1 million.
Accrued expenses increased to $16.7 million from $7.9 million, principally due to higher accrued compensation and benefits.
Total stockholders’ equity increased to $91.1 million from $43.1 million, primarily reflecting 2020 net income.
Common stock outstanding increased to 26.5 million shares from 25.2 million shares, primarily due to restricted stock activity.

COVID-19, Outlook and Unusual Items

The company transitioned classes from in-person instruction to remote learning during the first and second quarters of 2020 and gradually reopened campuses from May through August. All campuses were open at year-end, although some programs were extended because of restricted access to externship sites and classroom laboratories. The company expects most students placed on leave or otherwise deferred to complete their programs.

COVID-19 increased operating complexity and expenses, reduced access to externship sites, caused a slight decline in retention and temporarily affected job placement and recruitment. Management indicated that student starts and applications remained resilient, and that marketing efficiency improved despite increased investment.

The company received $27.4 million of CARES Act Higher Education Emergency Relief Fund allocations. By December 31, 2020, it had distributed $13.3 million in student grants and used $5.8 million of institutional funds for permitted expenses. It also received $15.4 million of additional CRRSAA funding, made available in February 2021, generally restricted to student grants for for-profit institutions. Improper use or reporting could require repayment or result in sanctions.

Management stated that available cash and expected operating cash flow should fund operations for the next twelve months and the foreseeable future, but cautioned that a materially adverse evolution of COVID-19 could impair liquidity.

The company released its full $37.4 million deferred tax valuation allowance at year-end 2020, resulting in the $35.1 million tax benefit. Goodwill was $14.5 million, or 5.9% of total assets, and no goodwill impairment was recorded.

Regulatory, Legal and Other Risks

Approximately 77% of 2020 revenue on a cash basis was derived from Title IV programs, creating significant dependence on federal student aid.
All three DOE institutions were provisionally certified. The DOE confirmed a 2019 composite score of 1.5, removed the company from Zone Alternative requirements, but the company remained on Heightened Cash Monitoring 1 pending completion of additional requirements. Management calculated a 2020 composite score of 2.7, subject to DOE review.
2020 90/10 Rule percentages for the institutions ranged from 74% to 83%; these calculations remain subject to DOE review.
Recent cohort default rates were below the 30% regulatory threshold, with 2017 final rates ranging from 8.0% to 11.0% and 2018 draft rates ranging from 6.6% to 11.3%.
The DOE required a $600,020 letter of credit related to Title IV refund findings at the Columbia and Iselin institutions, maintained through January 31, 2022.
The company is responding to potential closed-school loan discharge liabilities, including an asserted $412,000 liability for one campus and an approximately $74,000 liability for another; final outcomes were not determined.
A COVID-19-related class action lawsuit was filed in December 2020 alleging breach of contract, unjust enrichment and conversion. The company filed a motion to dismiss, which remained pending as of the filing date.
The company remains exposed to regulatory changes involving Title IV eligibility, accreditation, state authorization, borrower defense, gainful employment, the 90/10 Rule and financial responsibility standards.
The company has variable-rate debt linked to LIBOR, although an interest-rate swap hedged the term loan. A 1% change in interest rates on the remaining unhedged debt was estimated to affect annual interest expense by approximately $0.2 million.
Series A preferred stock carries a 9.6% initial dividend rate, significant voting and approval rights, a liquidation preference and potential dilution. The company paid $1.4 million of preferred dividends in 2020 and has no current intention to resume common-stock dividends.

Most Important Facts for Investors to Verify

Whether the DOE accepts the company’s calculated 2020 composite score of 2.7 and removes or modifies HCM1 requirements.
The effect of Title IV regulatory changes, provisional certification and any future DOE audits or enforcement actions.
Student receivable collections, bad debt trends and the adequacy of the $25.2 million allowance for uncollectible accounts.
Whether enrollment, student starts, retention and placement rates remain strong after the COVID-19 disruption.
The final amount and timing of any closed-school loan discharge liabilities and the outcome of the COVID-19 class action litigation.
Compliance with secured credit-facility covenants and the company’s ability to maintain liquidity while funding student financing commitments and lease obligations.
The sustainability of reported earnings excluding the $35.1 million deferred tax benefit.
Potential dilution, dividend obligations and governance effects associated with the Series A preferred stock.