PERDOCEO EDUCATION Corp annual report, FY2015

Business context and reporting period

Career Education Corporation (Nasdaq: CECO; now associated with Perdoceo Education Corporation) filed this Form 10-K for the fiscal year ended December 31, 2015. The filing reports full-year results, with unaudited fourth-quarter information also presented. Its core strategy is to concentrate resources on Colorado Technical University (CTU) and American InterContinental University (AIU), while teaching out its remaining career-school campuses.

At year-end, total enrollment was approximately 43,200, down 13.9% from 50,200. University Group enrollment was nearly flat at 31,900; the remaining 11,300 students were in Culinary Arts and Transitional Group campuses being taught out.

Financial results and key metrics

Revenue fell 7.3%, primarily reflecting the planned exit of career schools and lower enrollment; excluding Transitional Group and Culinary Arts, revenue increased 2.7%. University Group revenue rose 2.7% to $549.9 million and operating income increased to $93.0 million. CTU revenue grew 3.5%, while AIU revenue increased 1.4% despite an 8.6% decline in its year-end enrollment. The total operating loss improved as lower costs and University Group growth more than offset declining revenue and restructuring costs.

Reported net income primarily reflects a $147.5 million income-tax benefit, including a $109.8 million partial release of the valuation allowance on deferred tax assets. The company still reported a $94.4 million pretax loss. It recorded $60.5 million of asset impairment charges, including $41.7 million on long-lived assets and $18.8 million on trade names. Thus, the return to reported profitability did not represent positive pretax earnings.

Fourth-quarter revenue was $199.9 million and operating loss was $3.9 million. Net income of $142.7 million included the $109.8 million tax benefit. The filing does not provide a standalone fourth-quarter cash-flow figure.

Liquidity, debt and cash flow

Management reported $239.0 million of cash, cash equivalents, restricted cash and available-for-sale investments, including long-term investments; the balance sheet separately lists $231.6 million of cash, restricted cash and short-term investments. Restricted cash was $49.8 million, including $38.0 million pledged against credit-facility borrowings and $11.8 million supporting letters of credit. The $38.0 million borrowing was fully cash-collateralized, classified as short-term, and management said it intended to repay it during 2016. The $95 million revolving facility matures December 31, 2018 and includes a minimum domestic cash-and-investment covenant of $110 million, subject to stated adjustments.

Operating cash use improved by $96.9 million year over year. Management attributed the improvement mainly to lower operating losses and the wind-down of campuses; 2015 cash use included a $14.0 million tax refund and $14.7 million in facility-exit payments. Net contractual operating lease obligations were approximately $241.9 million after disclosed sublease income, including substantial obligations for the teach-out segments.

Material changes, outlook and principal risks

• Strategic exits: In 2015, CEC announced teach-outs for its remaining Sanford-Brown, Briarcliffe, Harrington and Le Cordon Bleu campuses, and sold Brooks Institute and Missouri College. Teach-outs are expected to finish on varying dates through 2018, with most Culinary Arts campuses expected to finish by the end of 2017.
• Management outlook: For 2016, management expected University Group and Corporate adjusted EBITDA to be relatively flat versus 2015, followed by modest growth in 2017 and 2018. It expected end-of-year cash, restricted cash and investments, net of borrowings, of about $150–160 million in 2016 and $140–150 million in 2017, and to generate cash in 2018. These are estimates, not guarantees, and rely on enrollment, cost-saving, teach-out, lease-recovery and regulatory assumptions.
• Regulatory and funding exposure: Approximately 77% of tuition cash receipts came from Title IV programs in 2015. All institutions were in the ED recertification process and operating under month-to-month participation agreements; all had been moved to Heightened Cash Monitoring 1 in 2011. The company disclosed an ongoing ED inquiry into alleged misrepresentation concerning placement rates, an ED compliance review, an AIU program review, an OIG audit matter involving CTU, a Federal Trade Commission inquiry and multiple state attorney-general investigations. Outcomes and potential financial effects were not estimable for several matters.
• Other regulatory risks: Gainful-employment thresholds could threaten Title IV eligibility for certain programs; management identified some University Group programs as near thresholds and said career-school programs had greater exposure. The company’s preliminary review found no institution above the 90% Title IV cash-receipts limit for 2015. New Title IV cash-management and book-bundling requirements could affect bad debt, compliance costs or reported revenue; the potential amounts were unclear.
• Teach-out and legal costs: The company recorded $24.1 million of severance and related restructuring charges in 2015 and estimated another $50–60 million of future lease-exit charges as campuses close, in addition to charges already recorded. Legal and regulatory outcomes could add costs; the filing says it could not reasonably estimate potential losses for several matters.
• Financial estimates: The deferred-tax-asset reversal depends on projected future taxable income, particularly after the teach-outs. A shortfall in projections could lead to a renewed valuation allowance and affect earnings, assets and regulatory financial-responsibility measures. The 2015 preliminary ED composite score was 1.7, but management noted it benefited from the tax-allowance reversal.

Investor verification priorities

• Confirm that University Group enrollment, retention and revenue trends—especially CTU growth and AIU performance—support management’s forecasts.
• Track ED recertification, HCM1 status, the placement-rate inquiry, the CTU audit, AIU review, FTC and state investigations, and any resulting sanctions, cash delays or settlements.
• Assess whether the $109.8 million deferred-tax valuation-allowance release is supported by realized taxable income and whether remaining tax assets are recoverable.
• Verify teach-out timelines, restructuring charges, lease obligations and sublease recoveries against the projected 2016–2018 cash balances.
• Review the cash-collateralized credit facility, its covenants and restricted-cash requirements, and distinguish reported cash and investments from unrestricted liquidity.