Grand Canyon Education, Inc. — Q3 2011 Form 10-Q
Reporting period: Three and nine months ended September 30, 2011. Comparative 2010 figures are restated. Dollar amounts below are in millions unless otherwise noted.
Business context
The company provides undergraduate and graduate postsecondary education online, at its Phoenix campus, and at employer sites. At September 30, 2011, enrollment was 44,486, up 5.2% year over year; 88.7% of students studied online. Undergraduate enrollment rose while graduate enrollment declined. Management cited enrollment growth and tuition increases as revenue drivers, partly offset by increased scholarships and the transition to borrower-based financial aid.
Key financial results
| Metric | Q3 2011 | Q3 2010 restated | Nine months 2011 | Nine months 2010 restated |
|---|---|---|---|---|
| Net revenue | $108.9 | $98.9 | $313.7 | $285.6 |
| Operating income | $20.7 | $18.5 | $58.8 | $49.1 |
| Net income | $12.9 | $10.7 | $35.2 | $29.0 |
| Diluted EPS | $0.29 | $0.23 | $0.78 | $0.62 |
| Operating margin | 19.0% | 18.7% | 18.8% | 17.2% |
| Net margin | 11.8% | 10.9% | 11.2% | 10.1% |
- Revenue increased 10.1% for Q3 and 9.9% for the nine-month period. Net income increased about 20% and 22%, respectively.
- Instructional costs were $48.9 million in Q3 and $144.2 million year to date; selling and promotional costs were $31.2 million and $88.8 million, respectively. Bad-debt expense was $27.9 million for nine months, down from $29.3 million restated, and was 8.9% of revenue versus 10.3%.
- Operating cash flow was $65.5 million for nine months, down from $80.5 million. Capital expenditures were $61.5 million, versus $39.6 million; cash and cash equivalents declined to $19.0 million from $33.6 million at year-end 2010.
- Restricted cash totaled $47.7 million current and $0.6 million noncurrent. Current assets were $106.8 million and current liabilities $128.6 million; restricted balances include student-aid funds and are not freely available for general use.
- Notes payable totaled approximately $22.1 million and capital lease obligations approximately $1.6 million. The company had an undrawn $50 million revolving credit facility. The filing states liquidity, including operating cash flow and the revolver, should be adequate for operations and planned needs for at least 24 months.
Material changes, unusual items, and management commentary
- Restatement: The company corrected its allowance-for-doubtful-accounts methodology because it had not adequately distinguished active from former-student receivables, which carry different collection risk. Restated Q3 2010 net income fell from $12.9 million to $10.7 million; nine-month 2010 net income fell from $36.8 million to $29.0 million. Nine-month 2010 operating cash flow was unchanged at $80.5 million.
- Controls: Management concluded internal control over financial reporting was not effective at September 30, 2011 because of the material weakness related to the allowance estimate. Management said it had implemented remediation measures and believed the weakness was remediated as of the filing date.
- Unusual expenses and cash uses: Q3 included a $0.9 million lease-termination expense. The company paid $5.2 million related to a previously settled qui tam matter and approximately $9.9 million to related parties during the first nine months. It repurchased $22.4 million of stock during that period.
- Regulatory review: The Department of Education’s preliminary program review identified five findings, including concerns involving enrollment-counselor compensation, program eligibility, and procedures for non-passing grades, as well as student-specific errors. No penalties were specified and no amount was accrued. The company said outcomes and potential financial exposure could not be predicted; adverse findings could require repayment of Title IV funds, fines, or other sanctions.
- Outlook and risks: Management anticipated increased pressure on new and continuing enrollment from economic conditions, regulation, and competition. It cited seasonality, student retention and recruitment, financial-aid availability, and changes to federal student-aid programs as significant risks. No specific earnings or revenue guidance was provided.
- Filing inconsistency: The MD&A narrative gives Q3 2011 instructional costs as 49.9% of revenue, while the income statement amounts and the filing’s margin table indicate approximately 44.9%. Verify the intended figure.
Investor verification priorities
- Review the restatement’s effects across all affected periods and assess the adequacy of the revised receivables allowance and related controls.
- Track the Department of Education review, any final findings, potential Title IV repayments or sanctions, and the status of the company’s provisional participation agreement, which runs through December 31, 2013.
- Assess receivables quality, bad-debt trends, restricted-cash availability, and whether operating cash generation can support elevated campus investment and other commitments.
- Confirm enrollment, retention, tuition and scholarship trends, and the impact of borrower-based aid and policy changes on revenue and cash flow.
- Reconcile the Q3 instructional-cost percentage discrepancy in the MD&A.