LINCOLN EDUCATIONAL SERVICES CORP annual report, FY2013

Lincoln Educational Services Corporation — FY2013 Form 10-K Summary

Business context and reporting period

The filing covers the fiscal year ended December 31, 2013, with quarterly information for the fourth quarter. Lincoln provides career-oriented post-secondary education through 33 campuses and five training sites in 15 states, primarily in automotive technology, health sciences, skilled trades, hospitality services, and business and information technology.

Year-end enrollment was 13,740 diploma and degree students plus 104 certificate students.
Average enrollment was 15,009 diploma and degree students and 315 certificate students, down 12.3% from 2012.
Approximately 80% of 2013 cash-basis revenue was derived from federal Title IV programs.

Financial performance and key metrics

Metric	2013	2012	Change
Revenue	$345.0 million	$382.8 million	Down 9.9%
Operating loss	$9.6 million	$14.0 million	Improved by $4.5 million
Loss from continuing operations	$33.8 million	$15.7 million	Worsened by $18.1 million
Net loss	$51.3 million	$37.2 million	Worsened by $14.1 million
Basic net loss per share	$2.28	$1.68	Worsened
Cash flow from operations	$3.2 million	$16.0 million	Down $12.7 million
Capital expenditures	$6.5 million	$8.8 million	Down $2.3 million
Total debt	$90.1 million	$73.5 million	Up $16.6 million
Cash, cash equivalents and restricted cash	$67.4 million	$61.7 million	Up $5.7 million

Continuing-operations operating margin was negative 2.8%, compared with negative 3.7% in 2012.
Educational services and facilities expense increased to 50.1% of revenue from 47.2%; selling, general and administrative expense increased to 51.7% from 49.9%, reflecting negative operating leverage from lower enrollment.
Bad debt expense declined to 4.1% of revenue from 5.1% in 2012.
A $19.6 million income-tax provision included a $24.5 million valuation allowance against deferred tax assets.
Goodwill and long-lived-asset impairment expense was $3.9 million in continuing operations; total 2013 impairment charges were approximately $6.2 million, including discontinued operations.

Fourth-quarter information

Fourth-quarter revenue was $88.5 million, compared with $97.0 million in the fourth quarter of 2012.
Fourth-quarter loss from continuing operations was $21.9 million, and net loss was $32.1 million, or $1.42 per basic share.
Fourth-quarter 2013 student starts declined 7.2% from the comparable 2012 quarter.

Material changes versus the prior comparable period

Revenue declined primarily because average enrollment fell 12.3%; the decline was partly offset by a 2.8% increase in average revenue per student from tuition increases averaging approximately 3%.
The company stopped enrolling new ability-to-benefit students beginning July 1, 2012, following changes to federal student-aid eligibility. It also stopped enrolling fully online students in early 2012. These actions continued to pressure enrollment and revenue.
Five campuses in Ohio and Kentucky were closed at December 31, 2013 and reported as discontinued operations. These campuses generated $7.7 million of 2013 revenue and a $17.5 million net loss.
Cash flow from operations fell substantially, while student loan commitments increased to $36.5 million gross, or $26.5 million net of interest, from $34.7 million gross and $25.0 million net in 2012.
Total stockholders’ equity declined to $145.2 million from $198.5 million, primarily reflecting the net loss and dividends.

Debt, liquidity and capital resources

Debt consisted primarily of $54.5 million under the secured revolving credit facility, a $9.7 million finance obligation, and $25.9 million of property capital leases.
The $54.5 million credit-facility balance outstanding at December 31, 2013 was repaid on January 3, 2014. The facility matured April 5, 2015; its aggregate availability was reduced from $60 million to $40 million effective January 16, 2014.
The credit facility was secured by substantially all company and subsidiary assets, bore interest at 7.25% at year-end, and contained financial covenants tied to leverage, fixed-charge coverage, financial responsibility, and cohort default rates. The company reported compliance with all covenants at year-end.
Year-end cash and cash equivalents were $12.9 million, while $54.5 million was classified as restricted cash under a cash-collateralized credit arrangement.
Contractual cash obligations totaled $228.7 million, including $119.5 million of operating leases, $50.0 million of capital leases, and $54.5 million related to the credit agreement.
Management expected operating cash flow, existing cash, and credit-facility borrowings to fund operations and identified capital needs through 2014. Planned 2014 capital expenditures were expected to approximate 4% of revenue.

Guidance, outlook, commentary and risks

Management stated that student starts appeared to have stabilized in automotive and skilled-trades programs, while other programs remained challenged. It expected negative margins to reverse in the near future but provided no quantified earnings or revenue guidance.
Management attributed continued pressure to financing gaps, students’ and parents’ reluctance to incur debt, economic conditions, regulatory changes, and lower utilization of facilities with high fixed costs.
For 2013, the institutions’ 90/10 percentages ranged from 69% to 85%, below the 90% threshold. Continued compliance remains material because loss of Title IV eligibility would reduce enrollment and would constitute an event of default under the credit agreement.
The company calculated a consolidated DOE financial-responsibility composite score of 1.5 for 2013, down from 1.6 in 2012; the 2013 score remained subject to DOE review.
Two institutions were provisionally certified based on pending DOE program reviews. The Fern Park, Florida campus was directed by ABHES to show cause why its accreditation should not be withdrawn; its accreditation continued through August 31, 2014 pending a response due May 1, 2014.
Draft gainful-employment regulations under negotiation could affect program eligibility, enrollment, disclosures, and potential funding requirements. The filing states that the ultimate rules and impact were uncertain.
Three-year cohort default rates for 2011 were in draft form and ranged from 16.8% to 26.5%; none of the institutions had a draft rate of at least 30%, but final rates were not expected until September 2014.
The Massachusetts Attorney General continued an investigation concerning potential compliance with state consumer-protection and finance laws. The company stated that it was cooperating and did not expect currently pending proceedings to have a material effect, but the ultimate outcome was uncertain.
Other principal risks include dependence on federal aid, regulatory and accreditation compliance, student-loan defaults, competition, geographic concentration, student receivable losses, interest rates, facility obligations, and further impairment of goodwill or other assets.

Most important facts for investors to verify

Whether enrollment and student starts stabilized or recovered after the 2013 decline.
Final DOE determinations regarding the 2013 financial-responsibility composite score, program reviews, 90/10 compliance, and cohort default rates.
The outcome of the Fern Park ABHES accreditation matter and any effect on Title IV eligibility.
Liquidity after repayment of the $54.5 million credit-facility balance, including the reduced $40 million borrowing capacity and April 2015 maturity.
Whether operating cash flow can support lease obligations, student-loan commitments, capital expenditures, and dividends while operations remain loss-making.
The effect of final gainful-employment and other DOE regulations on program eligibility, enrollment, and margins.
The realizability of deferred tax assets following the $31.7 million valuation allowance and the potential for additional goodwill or long-lived-asset impairments.