Strategic Education, Inc. (filed as Strayer Education, Inc.) — Q3 2015 Form 10-Q
Business context and period. The company operates Strayer University, offering undergraduate and graduate programs online and at campuses, primarily in the eastern United States. This unaudited report covers the quarter and nine months ended September 30, 2015; comparisons are with the corresponding 2014 periods unless noted. About 96% of nine-month revenue came from tuition.
Financial performance
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Revenue | $99.1m | $100.8m | $320.8m | $330.0m |
| Operating income | $7.3m | $9.2m | $48.0m | $59.1m |
| Net income | $3.7m | $5.0m | $27.0m | $33.4m |
| Diluted EPS | $0.35 | $0.46 | $2.52 | $3.15 |
| Operating margin | 7.3% | 9.1% | 15.0% | 17.9% |
Q3 enrollment rose 2% to 37,221, with new-student enrollment up 4%; nine-month average enrollment was essentially flat at 39,608. Revenue declined 2% in Q3 and 3% year to date, principally reflecting lower revenue per student. Q3 undergraduate revenue increased 3% as enrollment growth offset lower revenue per student; graduate revenue fell 10% with enrollment down 10%.
Q3 marketing expense increased 5% to $21.6m, while marketing as a share of revenue rose to 21.8% from 20.4%. For the nine months, marketing expense increased 6% to $52.9m and rose to 16.5% of revenue from 15.2%. Nine-month operating income fell 19%; higher marketing costs and fewer lease-related benefits versus 2014 contributed to margin pressure. The effective tax rate was 39.5% for the nine-month periods in both years.
Cash, debt and liquidity
- Cash and cash equivalents were $86.9m at September 30, 2015, down from $162.3m at December 31, 2014. Current assets were $119.7m versus current liabilities of $57.5m.
- Nine-month operating cash flow was $53.8m, down from $62.1m. Capital expenditures were $9.6m, up from $4.1m.
- The company prepaid approximately $116m of term debt in July and had no debt outstanding at quarter-end. The amended facility provides a $150m revolver, with a conditional option for up to $50m of incremental commitments or term loans; the revolver was undrawn.
- The facility matures July 2, 2020 and includes leverage, coverage and Department of Education financial-responsibility covenants. The company reported compliance at September 30, 2015.
- Contractual operating lease payments totaled $176.8m, including $37.3m due within one year. The restructuring liability for closed facilities was $22.5m at September 30, 2015.
Outlook, risks and notable items
- No formal revenue or earnings guidance is provided. Management expects undergraduate revenue per student to continue declining as more students enter under the lower-price structure and Graduation Fund. It expects annual bad-debt expense of 3.0%–4.0% of revenue; Q3 bad-debt expense was 2.3% versus 3.6% a year earlier.
- Management said existing cash, operating cash flow and available revolver capacity should cover requirements for at least the next 12 months. It identified enrollment trends, competition, affordability and economic conditions as uncertainties.
- The July debt repayment and swap termination materially reduced cash and eliminated term debt. The company paid $0.9m in credit-facility transaction fees. Q3 interest expense was $1.1m versus $1.3m.
- Results included facility-liability benefits: approximately $0.4m in Q3 2015 and $1.5m in Q3 2014; nine-month benefits were approximately $0.4m and $3.9m, respectively. Management attributed about $0.02 of Q3 2015 diluted EPS to after-tax facility-liability benefits, versus about $0.09 in Q3 2014.
- Regulatory oversight remains a significant risk. The gainful-employment rule became effective July 1, 2015 and can put program Title IV eligibility at risk based on debt-to-earnings measures. On October 9, 2015, after quarter-end, the Department of Education notified the University that its gainful-employment reporting was not recognized as complete because of erroneous program codes; the University said it corrected the errors. New program and location decisions were consequently held. The University also had a provisional participation agreement through June 30, 2017, requiring Department approval for specified substantial changes.
- The company reported no pending material legal proceedings and no material change to previously disclosed risk factors. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether enrollment gains can offset lower tuition per student, especially under the undergraduate pricing and Graduation Fund programs.
- Progress on gainful-employment reporting, program certifications, the remaining Department review, and the provisional Title IV agreement.
- Cash-flow sustainability after the term-loan prepayment, use of the $150m revolver, and continued covenant compliance.
- Assumptions underlying student receivable allowances, Graduation Fund redemption estimates, and lease-loss/sublease liabilities.
- Whether marketing and other expenses remain elevated as revenue and operating margins face pressure.