PERDOCEO EDUCATION Corp annual report, FY2013

Business context and reporting period

This is Career Education Corporation’s Form 10-K for the fiscal year ended December 31, 2013, filed February 27, 2014. The filing covers the full year, not just 2013 Q4; it also provides unaudited quarterly results. The issuer named in the filing is Career Education Corporation (NASDAQ: CECO).

CEC operated U.S. career-focused postsecondary schools offering online, campus-based and hybrid programs. Its continuing-operation segments were CTU, AIU, Health Education, Culinary Arts, Design & Technology, and Transitional Schools. The International Segment was sold in December 2013 and reported in discontinued operations; comparative periods were recast.

Key financial metrics

2013 included $22.7 million of goodwill and asset impairment charges, $26.0 million of legal-related expenses and a $72.2 million non-cash deferred-tax valuation allowance. Discontinued operations contributed $37.4 million of net income, including the International Segment sale gain; the sale produced a $130.1 million pretax gain and approximately $87.9 million of related tax expense.

The company had no borrowings under its new $70 million revolving credit facility at year-end, and had $12.3 million of letters of credit outstanding. Borrowings and letters of credit require 100% cash collateral; the agreement also requires at least $200 million of cash and cash equivalents. Working capital was $252.6 million. Minimum operating lease payments totaled $485.2 million, including continuing and discontinued operations.

Material changes versus prior comparable period

• Revenue fell 21.4% year over year. Continuing-operation enrollment at year-end declined 16%, to approximately 53,700 from 64,300; new student enrollments declined 22%.
• The operating loss widened by $17.7 million despite a $269.8 million reduction in operating expenses. Expense reductions were partly offset by lower revenue, legal costs and impairments.
• Cash from operations deteriorated to an $85.8 million use from a $16.8 million use. Cash and short-term investments rose, primarily reflecting the International Segment sale proceeds, while CEC repaid $80 million of prior credit-facility borrowings.
• Student enrollment trends varied: CTU’s revenue declined 4.6%, while AIU’s fell 23.9%; Career Schools revenue declined 20.5%. CTU generated $63.5 million of operating income, but AIU recorded a $5.6 million operating loss and Career Schools recorded a $162.2 million operating loss.
• The company added six campuses to teach-out and completed the teach-out of four others. At year-end, Transitional Schools had approximately 2,400 students and generated a $76.7 million operating loss.

Outlook, commentary, risks and unusual items

• Management expected modest new-student enrollment growth in 2014 and up to $75 million of additional cost savings, incremental to more than $200 million of lower expenses reported in 2013. These are expectations, not formal consolidated earnings guidance.
• Management estimated 2014 operating losses of approximately $70 million for Transitional Schools, including expected remaining-lease charges; 20 of 30 campuses in the segment were scheduled to complete teach-out during 2014.
• CEC received $276.5 million at closing for the International Segment sale. Management said the transaction was intended to provide capital to rebuild domestic operations and simplify the business. CEC also planned to combine Health Education and Design & Technology management as Career Colleges.
• Management cited fourth-quarter improvements, excluding Transitional Schools: applications up 38% overall, conversion of prospective students to new enrollments improved 49%, and new-student enrollment grew at CTU, Health Education and Design & Technology. Management cautioned that 2014 would remain challenging.
• Regulatory exposure is substantial: approximately 78% of tuition cash receipts in 2013 came from Title IV funding, and about 90% of U.S.-based students in a program during the year participated in Title IV aid. All institutions remained on Heightened Cash Monitoring 1 status following an Education Department action in 2011.
• CEC’s preliminary consolidated financial-responsibility composite score was 1.5, the threshold for meeting the standard without additional oversight. Further deterioration could require letters of credit or other measures. Four teach-out OPEIDs were expected to exceed the 90-10 limit in 2013; management said none of the non-teach-out OPEIDs was expected to exceed it.
• Accreditation outcomes and graduate placement are risks. Fifteen of 38 ongoing ACICS-accredited campuses were below placement or retention benchmarks for the 2013 reporting year, including three below the placement minimum compliance standard. The filing also notes a draft cohort-default rate above the applicable standard for the LCB Austin institution.
• Pending and settled legal matters include the Vasquez settlement estimate of $15.5 million to $17.5 million, a $10.5 million New York Attorney General settlement, securities and derivative litigation settlements, federal False Claims Act cases, an SEC inquiry, and state attorney general investigations. The company recorded $20.3 million of estimated legal fees and settlements at year-end; some potential losses could not be reasonably estimated.
• The 2013 tax valuation allowance reflected cumulative losses and reduced recognized deferred tax assets. Management’s estimates of future taxable income, asset values and lease exit costs are subject to uncertainty. CEC disclosed no material weakness: management and Ernst & Young reported effective internal control over financial reporting, and the financial statements received an unqualified audit opinion.

Important facts for investors to verify

• Whether enrollment, conversion and application improvements continued beyond Q4 2013 and translated into revenue growth and better margins.
• Whether projected 2014 cost savings were achieved without weakening student retention, outcomes or compliance.
• The final loss and cash cost of campus teach-outs, lease exits and the remaining $485.2 million of minimum lease payments.
• Whether CEC maintained the 1.5 financial-responsibility score and the facility’s cash-collateral, minimum-cash and other covenant requirements.
• Final 90-10 and cohort-default results, accreditation decisions, and developments in Title IV monitoring and pending regulatory or legal matters.
• The realizability of deferred tax assets and the assumptions supporting goodwill, trade-name and other asset valuations.