Grand Canyon Education, Inc. — Q3 2016 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2016; comparative figures are for the same periods in 2015. Financial amounts below are in millions of dollars unless stated otherwise. The filing describes a regionally accredited university with online and ground programs; enrollment was 82,422, up 9.8% year over year.
Financial performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Revenue | $210.4 | $193.4 | $628.7 | $562.2 |
| Operating income | $47.1 | $49.0 | $160.5 | $147.2 |
| Operating margin | 22.4% | 25.3% | 25.5% | 26.2% |
| Net income | $29.2 | $33.3 | $100.5 | $93.3 |
| Diluted EPS | $0.62 | $0.70 | $2.14 | $1.97 |
| Net cash from operations | Not provided for quarter | Not provided for quarter | $214.5 | $169.0 |
- Q3 revenue increased 8.8%; management attributed growth primarily to enrollment and, to a lesser extent, room, board, and other fees. A later fall-semester start shifted an estimated $4.9 million of revenue from Q3 into Q4.
- Q3 operating income declined despite revenue growth. Operating expenses rose 13.1%; advertising increased 23.4%, and instructional costs increased 10.3%. Operating margin contracted to 22.4% from 25.3%.
- Q3 net income fell 12.3%. An investment impairment drove a $2.3 million loss in interest and other income for the quarter; the filing reports a $2.5 million impairment charge for the nine-month period. A $3.4 million lease termination fee was also recorded in Q3.
- For the nine months, revenue grew 11.8%, operating income 9.0%, and net income 7.8%. Margin pressure reflected higher instructional costs, advertising, and infrastructure-related depreciation and occupancy expense. The reported nine-month effective tax rate was 37.1%, versus 36.5%.
Cash, liquidity, debt, and investment
- At September 30, unrestricted cash and investments totaled $124.8 million; restricted cash, cash equivalents, and investments were $69.3 million. Cash and cash equivalents alone were $75.1 million.
- Nine-month operating cash flow was $214.5 million. Investing activities used $166.0 million, including $157.6 million of capital expenditures and $41.9 million of off-site development purchases, partly offset by investment maturities and sales.
- Capital spending supported campus expansion, including residence halls, a classroom building, student services, parking, and land. The company also described an off-site office building and parking garage expected to be completed in late 2016.
- Notes payable totaled approximately $86.9 million at September 30, including $18.6 million current; capital lease obligations totaled $0.5 million. The company had a $150 million revolving facility through December 2017. Management reported $12.0 million drawn at September 30 and said it was repaid in October 2016.
- Management stated that operating cash flow, cash and cash equivalents, and revolver availability were expected to fund operations, planned capital expenditures, and working capital for at least 24 months. Contractual obligations totaled $155.9 million, including $62.1 million of purchase obligations.
- The company repurchased 0.4 million shares for $15.4 million during the first nine months, with $99.2 million remaining under its $175 million authorization at September 30.
Outlook, risks, and unusual items
- The filing does not provide a specific numerical financial forecast for the coming quarter or full year. Management noted normal seasonal fluctuations and expects the summer effect on margins to become more pronounced as the share of traditional ground students grows.
- Management reported draft gainful-employment rates received October 20, 2016: none of the university’s programs failed, while four degree programs were in the “Zone.” The company was reviewing the underlying data; final rates were expected in January 2017.
- Federal and state regulation, accreditation, and continued student access to Title IV aid are material risks. New federal borrower-defense regulations largely take effect July 1, 2017 and may entail loan discharges, school reimbursement, arbitration restrictions, disclosures, or financial-protection requirements.
- Arizona nursing regulators rescinded deficiency notices concerning the BSN and APRN programs but continued their investigation; management could not predict the outcome of the November 2016 Board meeting.
- Other risks identified include competition for students, enrollment conversion and retention, advertising effectiveness, ability to manage campus growth, and compliance with debt covenants. Management said it believed the university was materially compliant with applicable regulations. It reported no material change in previously disclosed risk factors and no material off-balance-sheet arrangements.
- The company planned to adopt new share-based compensation accounting guidance on January 1, 2017. Management anticipated changes to income-tax and cash-flow presentation and potentially slightly higher diluted-share calculations; it described the expected cumulative-effect adjustment as immaterial.
Investor verification priorities
- Track enrollment growth and its conversion into recognized revenue, particularly the timing shift of approximately $4.9 million into Q4 and the impact of scholarships.
- Assess whether instructional, advertising, and campus-related costs continue to outpace revenue and pressure operating margins.
- Verify capital-spending commitments, campus project completion, and cash-flow capacity alongside the reported debt and revolver position.
- Follow final gainful-employment results for the four programs in the Zone and any resulting Title IV eligibility or disclosure obligations.
- Monitor the nursing-program review and implementation of the borrower-defense regulations for potential financial or operating consequences.