Strategic Education, Inc. quarterly report, Q1 FY2015

Business context and reporting period

Strayer Education, Inc. (the registrant identified in this 10-Q) operated Strayer University, offering undergraduate and graduate programs online and at physical campuses. This unaudited report covers the quarter ended March 31, 2015, compared with the quarter ended March 31, 2014, and the balance sheet compared with December 31, 2014. The company reported one operating segment.

Key financial metrics

Q1 2015 net margin was approximately 10.2%, versus 12.7% in Q1 2014. Cash and cash equivalents were $188.3 million at March 31, 2015, up from $162.3 million at December 31, 2014. Total debt was $117.2 million, all under the term loan; no revolver borrowings were outstanding, and $100 million of revolving capacity remained available. The company reported compliance with its credit-facility covenants. Current assets were $217.6 million and current liabilities $63.6 million.

Material changes versus the prior comparable period

• Revenue declined 4%, reflecting a 1% enrollment decline and a 3% decline in revenue per student. Winter-term enrollment was 40,728, down 1% from 41,098.
• Undergraduate revenue fell 3%; revenue per undergraduate student declined 7%, largely due to lower tuition for new students and the Graduation Fund. Graduate revenue declined 6%, as enrollment fell 10%, partly offset by higher revenue per student.
• Operating income and net income each declined 23%. Operating expenses rose about 2% overall, while revenue declined; operating margin contracted by about 4.5 percentage points.
• Operating cash flow fell about 9%, while capital expenditures increased. Cash nevertheless rose by $26.0 million during the quarter, after operating cash flow, investing outflows, and scheduled debt repayments.
• Bad-debt expense was 3.1% of revenue, down from 4.3%; days sales outstanding improved to 13 from 14.

Outlook, management commentary, risks and unusual items

Management provided no specific numerical financial guidance. It said undergraduate revenue per student was expected to continue declining as more new students entered under the lower-price structure. Management cited affordability initiatives, including a 20% tuition reduction for new undergraduate students beginning in 2014 and the Graduation Fund, and said it believed its strategy could support long-term growth. It cautioned that future enrollment trends were uncertain.

Regulatory exposure is material. The Department of Education’s gainful-employment rules were scheduled to take effect July 1, 2015; management said it lacked sufficient guidance and data to determine the full financial or operational impact. The rules could affect program eligibility for Title IV funding, enrollment, retention, administrative costs and reputation. The university’s Title IV participation agreement was provisional through June 30, 2017, pending open program reviews. One review remained without a determination letter; another closed with a payment due of less than $500.

The company had $25.6 million in restructuring-related lease and facility liabilities at March 31, 2015, following a 2013 restructuring that closed approximately 20 locations. Management reported an approximately $0.2 million Q1 2015 reduction in the liability, compared with approximately $0.9 million in Q1 2014; these adjustments benefited reported results. Contractual operating lease commitments totaled $185.4 million. The term loan matures December 31, 2016, with $112.5 million of scheduled maturities in 2016. Management stated that cash, operating cash generation and, if needed, the credit facility should meet requirements for at least 12 months.

Other exposures include student receivable collectibility, estimates of future sublease income and lease liabilities, and tax examinations. The company disclosed $2.6 million of unrecognized tax benefits, with approximately $0.4 million potentially subject to reduction within 12 months. It reported no pending material litigation. Management concluded disclosure controls were effective and reported no material change in internal control over financial reporting.

Important facts for investors to verify

• Whether enrollment, particularly graduate enrollment, stabilizes and whether lower undergraduate pricing continues to pressure revenue per student.
• The eventual financial and enrollment effects of gainful-employment rules and the status and outcome of remaining Department of Education reviews.
• Progress on restructuring lease liabilities and subleasing unused facilities, including whether actual recoveries match management estimates.
• The company’s ability to refinance or repay the substantial 2016 term-loan maturity while maintaining covenant compliance.
• Whether bad-debt trends and cash conversion remain favorable as student receivables and enrollment evolve.