Grand Canyon Education, Inc. — Q3 2012 Form 10-Q
Business context and reporting period. The filing covers the quarter and nine months ended September 30, 2012, compared with the same 2011 periods. Grand Canyon Education provides accredited undergraduate and graduate education online, at its Phoenix campus, and at employer sites. At quarter-end, enrollment was 52,253, up 17.5% year over year; 85.8% of students were enrolled online.
Financial performance and liquidity
| Metric | Three months ended September 30 | Nine months ended September 30 |
|---|---|---|
| Net revenue | $133.6 million; +22.6% | $370.0 million; +17.9% |
| Operating income / margin | $31.2 million / 23.4% | $80.8 million / 21.8% |
| Net income / margin | $18.5 million / 13.8% | $48.5 million / 13.1% |
| Diluted EPS | $0.41 | $1.07 |
- Revenue drivers: Management attributed growth chiefly to higher ground and online enrollment, with contributions from improved retention and tuition increases, partly offset by higher institutional scholarships. Ground enrollment grew 46.9% and online enrollment 13.7% year over year.
- Costs and margins: Q3 instructional costs rose 17.2% and selling and promotional expense rose 16.6%, both slower than revenue growth. Instructional costs declined to 42.9% of revenue from 44.9%, mainly reflecting lower bad-debt expense. Selling and promotional expense was 27.3% of revenue versus 28.7%. The prior-year period included a $0.9 million lease termination fee.
- Cash flow and investment: The cash flow statement reports $124.7 million of operating cash flow for the first nine months, versus $65.3 million in 2011. Capital expenditures were $73.6 million, primarily for campus expansion; operating cash flow less capital expenditures was approximately $51.1 million. The MD&A gives operating cash flow as $124.1 million, which does not match the statement.
- Liquidity and debt: September 30 cash and cash equivalents were $69.6 million, plus $57.4 million of restricted cash. The $50 million revolving credit line was undrawn. Notes payable totaled approximately $20.4 million and capital lease obligations approximately $0.7 million. Current assets were $154.3 million and current liabilities $173.9 million; restricted cash is not freely available for general use.
- Capital returns: The company repurchased $4.9 million of shares in the first nine months and had $21.2 million remaining under its authorization, which expires September 30, 2013.
Material changes versus the prior comparable periods
- Net income increased 43.5% in Q3 and 37.8% for the nine-month period. Revenue growth was supported by 17.5% enrollment growth.
- Bad-debt expense fell as a share of revenue: from 8.8% to 4.2% in Q3 and from 8.9% to 3.6% for the nine months. Management cited improved collections and retention.
- Q3 effective tax rate increased to 40.5% from 37.3%, which management attributed to nonrecurring tax items; the nine-month rates were 39.6% and 39.9%, respectively.
- Campus investment expanded: net property and equipment increased to $256.5 million from $189.9 million at year-end 2011. The company also changed its presentation of operating cash flows for student-aid restricted cash; prior-period cash flow figures were reclassified, with no effect on financial position or earnings.
Outlook, risks, contingencies, and unusual items
- No specific numerical earnings or revenue guidance is provided. Management anticipates increased pressure on new and continuing enrollment from economic challenges, new and proposed regulation, and competition. It expects seasonal quarterly fluctuations to continue and says the summer effect may be more pronounced as ground enrollment grows.
- The Department of Education’s Title IV program review remains unresolved. Findings concern enrollment-counselor compensation, gainful employment, non-passing grades and student-specific matters. The company reserved $3.45 million in the first nine months for Pell grant refunds identified during its file review; additional refunds or penalties could not be estimated. An adverse final finding could require refunds, fines, or other sanctions and could materially affect the business. The company’s Title IV participation was provisionally certified through 2013.
- Other stated risks include dependence on student access to federal and other aid, regulatory and accreditation compliance, enrollment conversion and retention, competition, staffing, and managing growth. Management said it believed the company was materially compliant with applicable regulations.
- The company reported no material changes to its previously disclosed risk factors. It said disclosure controls were effective and there were no material changes in internal control over financial reporting.
Important facts for investors to verify
- Reconcile the MD&A’s $124.1 million operating cash flow figure with the cash flow statement’s $124.734 million.
- Track the Department of Education program review, the completion and results of the student-file review, and whether further Title IV refunds or sanctions are required.
- Assess the sustainability of lower bad-debt expense and the effects of enrollment growth, scholarships, tuition changes, and retention on revenue and margins.
- Monitor campus construction spending, liquidity available after considering restricted cash and obligations, and any future share repurchases.
- Consider seasonality and the disclosed expectation of enrollment pressure from economic conditions, regulation, and competition.