Business context and reporting period
Career Education Corporation’s Form 10-Q covers the quarter and six months ended June 30, 2016. The company operated Colorado Technical University (CTU) and American InterContinental University (AIU), alongside Culinary Arts and Transitional Group campuses undergoing teach-outs. The universities were predominantly online. The filing identifies the registrant as Career Education Corporation.
Financial performance and position
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Revenue | $182.6 million | $216.8 million | $381.5 million | $443.8 million |
| Operating income (loss) | $17.3 million | $(19.9) million | $24.3 million | $(44.3) million |
| Net income (loss) | $11.8 million | $(20.7) million | $14.9 million | $(45.6) million |
| Diluted earnings (loss) per share | $0.17 | $(0.31) | $0.22 | $(0.67) |
- Q2 operating margin was 9.5%, versus negative 9.2% a year earlier. Revenue declined 15.8%; excluding Culinary Arts and Transitional Group teach-outs, revenue grew 3.0% in the quarter and 3.9% year to date.
- Q2 University Group revenue rose 3.0% to $142.3 million and operating income increased to $36.8 million from $29.4 million. CTU revenue grew 6.5%; AIU revenue declined 2.7%.
- Total student enrollment was down 17.1% year over year, largely reflecting teach-outs. University Group enrollment increased 1.0%, but Q2 new University Group enrollment fell 4.0%; CTU new enrollment fell 10.4%.
- Six-month operating cash flow was positive $6.0 million, compared with cash use of $26.6 million in 2015. Capital expenditures were $2.0 million. The filing does not present free cash flow as a measure.
- At June 30, cash, restricted cash and available-for-sale investments totaled approximately $208.8 million. The company had no revolving-credit borrowings, compared with $38.0 million at year-end 2015; the $95 million facility matures December 31, 2018 and borrowings require 100% cash collateral.
- Current assets were $249.7 million and current liabilities $129.4 million. Total assets were $552.8 million and stockholders’ equity $354.2 million. Student-receivable allowance was $21.0 million; six-month bad-debt expense increased to $14.9 million from $9.2 million.
Material changes versus the prior comparable period
- Profitability improved substantially as university revenue and operating efficiencies increased, while advertising, admissions and administrative costs fell. Prior-year results included $11.4 million of Q2 asset impairment and $12.8 million of restructuring charges.
- Consolidated adjusted EBITDA was $25.6 million in Q2 versus negative $4.3 million; for the first six months it was $38.8 million versus negative $16.1 million. These are non-GAAP measures.
- Continuing teach-outs drove substantial revenue declines in Culinary Arts and Transitional Group. The company said future teach-out operating losses may rise as costs to support remaining students outlast related revenue.
- Bad-debt expense rose, in part because of increased reserves and delays in students completing financial-aid verification. Management anticipated further pressure from federal cash-management rules effective July 1, 2016.
Outlook, risks and unusual items
- Management raised its outlook: 2016 consolidated adjusted EBITDA was expected to improve from 2015 and be positive; year-end cash, cash equivalents, restricted cash and available-for-sale investments, net of borrowings, were forecast at $160–$170 million. For 2017, adjusted EBITDA was expected to be flat versus 2016 and year-end net cash and investments $140–$155 million. These projections depend on enrollment, cost savings, teach-out execution, lease recoveries, working capital and no material adverse legal or regulatory developments.
- The company expected cash usage to moderate through 2016–2017 and cash generation to resume in 2018. It stated it expected to meet cash needs for at least 12 months using operating cash and existing balances.
- Key regulatory exposure includes Title IV eligibility and recertification: institutions’ provisional participation agreements ran through December 31, 2016, with applications due September 30, 2016. All institutions remained on Heightened Cash Monitoring 1 status. Management warned that stricter monitoring or reimbursement status could delay federal aid receipts and require substantial use of available cash.
- Government inquiries included multi-state attorneys general, the FTC, the Department of Education and an SEC inquiry received June 21, 2016 concerning the 2014 held-for-sale/discontinued-operations classification of Le Cordon Bleu campuses and related disclosures. The company said it was cooperating and could not estimate outcomes or potential losses for these inquiries.
- Other litigation included student and False Claims Act matters; outcomes and potential losses were uncertain, and no liabilities were recorded for several matters where losses could not be reasonably estimated. The company had accrued $2.2 million for estimated legal fees and settlements and a $1.0 million reserve related to a CTU Department of Education audit matter.
- Management estimated a further $50–$60 million of future lease-exit charges for continuing-operation teach-out campuses as closures occur, in addition to approximately $26.5 million already charged through Q2 2016. Separately, net contractual operating lease obligations were $230.1 million.
- A $2.1 million favorable tax adjustment related to completion of a federal tax audit reduced the reported 2016 effective tax rate. An auction-rate municipal bond investment had an unrealized loss of approximately $0.5 million and continuing auction illiquidity; management considered the impairment temporary.
Important facts for investors to verify
- Whether CTU and AIU can sustain enrollment, retention and revenue growth, especially given falling new CTU enrollment and rising bad-debt expense.
- Progress and cash costs of campus teach-outs, lease exits, subleases and the estimated future lease charges.
- Title IV recertification, HCM1 status, the outcome of the Department of Education audit reviews, and any consequences of pending regulatory inquiries or proposed rules.
- Whether the assumptions underpinning 2016–2017 adjusted EBITDA and liquidity guidance are achieved; adjusted EBITDA is non-GAAP and should be assessed alongside GAAP earnings and cash flow.
- Developments in litigation and investigations, including the SEC inquiry, and whether any loss becomes estimable or material.
- The collectability of student receivables and liquidity or valuation changes in the auction-rate security.