Grand Canyon Education, Inc. — Q2 2012 Form 10-Q
Business context and reporting period. The company provides postsecondary education through online, Phoenix campus and employer-site programs. This unaudited filing covers the three and six months ended June 30, 2012, compared with the same periods in 2011. Amounts below are in millions except per-share data and enrollment.
Financial performance
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Revenue | $119.3 | $103.1 | $236.4 | $204.8 |
| Operating income | $25.4 | $22.0 | $49.6 | $38.2 |
| Operating margin | 21.3% | 21.4% | 21.0% | 18.6% |
| Net income | $15.6 | $12.9 | $30.1 | $22.4 |
| Net margin | 13.1% | 12.5% | 12.7% | 10.9% |
| Diluted EPS | $0.35 | $0.29 | $0.67 | $0.49 |
| Operating cash flow | Not separately provided | Not separately provided | $79.6 | $37.6 |
| Capital expenditures | Not separately provided | Not separately provided | $50.5 | $38.3 |
- Q2 revenue grew 15.7%; net income rose 21.2%. For the first half, revenue grew 15.4% and net income 34.5%.
- Enrollment at June 30 increased 12.4% to 44,435: online enrollment rose 11.1% and ground enrollment 43.7%. Online students represented 94.8% of total enrollment.
- For the first half, operating cash flow less capital expenditures was approximately $29.1 million. The company attributed stronger operating cash flow to earnings, noncash charges and working-capital improvements.
- At June 30, unrestricted cash was $50.8 million; restricted cash and cash equivalents were $54.9 million current and $0.4 million noncurrent. The company had no borrowings on its $50 million revolver and said available liquidity should support operations and planned spending for at least 24 months.
- Notes payable totaled approximately $20.9 million and capital lease obligations approximately $0.7 million. Contractual obligations totaled $103.1 million, including operating leases and purchase obligations.
Material changes and management commentary
- Revenue growth reflected higher online and ground enrollment, improved retention and tuition increases, partly offset by increased scholarships. The estimated blended tuition increase for online and professional studies in the 2012–13 academic year was 2.5%; ground tuition was unchanged.
- First-half instructional costs and services declined to 44.1% of revenue from 46.5%, primarily as bad-debt expense fell to 3.3% of revenue from 8.9%, reflecting improved collections and fewer former-student receivables. Q2 instructional costs were 44.8% of revenue versus 45.0%.
- Selling and promotional costs increased faster than revenue: 27.5% of revenue in Q2 versus 26.9%, and 28.5% for the first half versus 28.1%. The company cited enrollment-counselor compensation, advertising and a related-party revenue-sharing arrangement.
- The effective tax rate declined to 38.5% in Q2 from 41.5% and to 39.1% for the first half from 41.3%, due to nonrecurring tax items.
- Capital spending increased to support campus expansion, including dormitories, an Arts and Science classroom building and a parking garage. The board extended the share repurchase authorization through September 30, 2013; $24.1 million remained available at quarter-end.
- The company changed presentation of changes in restricted student-aid cash to operating activities and recast prior periods. Management said the reclassification did not affect financial position or results of operations.
Outlook, risks and contingencies
- The filing provides no specific financial forecast or earnings guidance. Management anticipated greater pressure on new and continuing enrollment from economic challenges, regulation and competition. It also expects seasonal operating-result fluctuations, potentially more pronounced as ground enrollment grows.
- A Department of Education Title IV program review remained unresolved. In Q2, the company reserved approximately $3.0 million for Pell grants it concluded should be returned for certain students who unofficially withdrew; it will not seek repayment from those students. Additional refunds or penalties could be required, and the ultimate outcome was not predictable.
- The company was provisionally certified to participate in Title IV programs through 2013. Management stated it believed the company was materially compliant, while warning that significant adverse findings could result in refunds, fines, sanctions, reputational damage or material business effects.
- On June 30, 2012, a federal court struck down key gainful-employment rule metrics and related provisions. The Department of Education’s next steps were uncertain. The company also agreed to comply with proposed Principles of Excellence for institutions serving military members, veterans and families; these could increase costs.
- Other stated risks include student access to financial aid and financing, retention and enrollment conversion, competition, regulatory changes, staffing, technology, growth management and debt covenants. Management said pending ordinary-course litigation was not expected to have a material adverse effect, though outcomes could differ from reserves.
Important facts for investors to verify
- How the Department of Education resolves the program review, including the $3.0 million Pell-grant reserve and any further refunds, fines or sanctions.
- Whether enrollment growth and improved bad-debt collections persist, and how rising recruitment and campus costs affect margins.
- The timing, scale and returns of campus capital projects, alongside cash needs, contractual obligations and any future share repurchases.
- Any changes to Title IV eligibility, gainful-employment requirements or military and veterans education rules.
- The effect of seasonality and the company’s growing ground-student population on quarterly results.