Career Education Corporation — Q1 2013 Form 10-Q
Business context and reporting period. This is Career Education Corporation’s unaudited quarterly report for the three months ended March 31, 2013, filed May 6, 2013. The company operated postsecondary schools in the U.S. and Europe, with online, on-ground and hybrid programs. Results are reported across University Schools, Career Schools, International and Transitional Schools; two campuses that completed teach-outs are presented as discontinued operations.
Financial performance and liquidity
| Metric | Q1 2013 | Q1 2012 |
|---|---|---|
| Revenue | $340.5 million | $431.4 million |
| Operating income (loss) | ($18.1 million); margin (5.3%) | $47.9 million; margin 11.1% |
| Continuing-operations income (loss) | ($14.5 million) | $41.7 million |
| Net income (loss) | ($15.2 million); diluted EPS ($0.23) | $52.1 million; diluted EPS $0.78 |
| Operating cash flow | ($14.2 million) | $17.4 million |
| Investing cash flow | ($6.1 million) | ($12.2 million) |
| Financing cash flow | $6.7 million | ($60.1 million) |
- Revenue fell 21.1%. Operating expenses declined 6.5%, but not enough to offset lower revenue; the operating margin contracted by 16.4 percentage points.
- At March 31, cash, cash equivalents and short-term investments totaled $299.2 million, including $223.8 million unrestricted cash, $11.4 million restricted cash and $64.0 million short-term investments. The company reported $173.6 million of unrestricted cash and short-term investments in U.S. operations; some European-school funds are restricted to those schools’ use.
- The company repaid its $80 million revolving-credit borrowing during the quarter, releasing $88 million of related cash collateral. No borrowings remained under the facility at quarter-end. The facility was scheduled to mature January 31, 2014 and required at least $75 million of cash and cash equivalents in domestic accounts while in effect.
- Total assets were $994.6 million and stockholders’ equity was $596.5 million. The balance sheet shows no material conventional debt at quarter-end, but includes deferred rent obligations of $93.3 million and discontinued-operations liabilities, principally lease obligations.
Material changes and operating trends
- New student starts fell 27% overall and student population fell 21% year over year. Excluding Transitional Schools and the impact of student-readiness programs, management said domestic starts declined 12%.
- University Schools revenue declined 15.5% and operating income fell to $19.1 million from $33.7 million. Career Schools revenue declined 28.0% and the segment recorded a $30.6 million operating loss, versus approximately break-even a year earlier. International revenue rose 16.0% to $49.7 million and operating income was broadly flat at $13.5 million. Transitional Schools revenue declined 55.0% and its operating loss widened to $13.7 million.
- Q1 2012 included a $19.0 million insurance recovery in Corporate and Other, affecting year-over-year expense comparisons. In Q1 2013, the company recorded a $6.7 million loss on the pending sale of AIU London, including approximately $3.3 million of cumulative currency translation loss. The sale became effective April 1, 2013; the company received no consideration and paid the buyer $1.9 million for negative working capital.
- Cash used in operations compared with cash provided in the prior-year quarter. Capital expenditures declined to $4.1 million from $12.3 million. Unrestricted cash and cash equivalents declined to $223.8 million from $240.6 million at year-end; total cash, cash equivalents and short-term investments fell to $299.2 million from $402.3 million, in part as restricted collateral was released and the borrowing repaid.
Outlook, commentary and risks
- Management said it expected operating losses of $70–$80 million for Transitional Schools in 2013, excluding remaining-lease charges and other unusual items, and expected most campus closures to be completed by Q2 2014.
- The company expected domestic cost-reduction and reorganization initiatives to reduce 2013 operating expenses by $25 million or more, with most efforts expected to be completed in Q3 and Q4. This is management’s stated target, not full-year earnings or revenue guidance.
- Management cited extended student decision cycles, increased competition, declining student interest, economic uncertainty, negative publicity and regulatory changes. It also described initiatives to right-size operations, improve student engagement and retention, expand International operations, and develop adaptive-learning programs.
- Title IV funding represented approximately 78% of U.S. schools’ tuition cash receipts in Q1 2013. The Department of Education had placed the company’s institutions on Heightened Cash Monitoring 1 status and was investigating placement-rate disclosures. A move to HCM2 or reimbursement status could delay federal funding and require the company to finance student disbursements from its own cash.
- Accreditation issues were significant: ABHES withdrew accreditation from three medical-assisting programs, subject to appeal; the filing said 51 of 56 ABHES-accredited programs reporting rates were below the 70% placement-rate standard for the 2012 reporting year. Other programs faced show-cause or additional reporting requirements.
- State attorney general inquiries, an SEC inquiry, Department of Education matters, False Claims Act cases and multiple student and shareholder lawsuits remained unresolved. Management generally could not estimate potential losses for these matters. The company had accrued $5.8 million for estimated legal fees and settlements; it estimated potential liability of approximately $0.75 million on one Department of Education audit issue, reduced from $2.5 million.
- The company estimated gross remaining lease obligations of approximately $78 million for campuses undergoing teach-outs, before estimated sublease income and discounting. It also reported approximately $39.9 million of remaining lease obligations for discontinued operations.
- Management stated it expected existing cash and operating cash flows to meet requirements for at least the next 12 months, while warning that domestic operating cash flows faced continued pressure. Cash and investments held by foreign subsidiaries were approximately $114.2 million; the company said it did not plan to repatriate additional foreign funds under its then-current plans.
Key facts for investors to verify
- Whether enrollment and revenue declines stabilized, and whether planned expense reductions offset ongoing operating deleverage.
- Actual cash generation and liquidity available for U.S. operations, accounting for school-specific and other restrictions on cash.
- Developments in Department of Education cash-monitoring status, placement-rate investigations, ABHES accreditation appeals and other regulatory inquiries.
- Progress and realized costs of campus teach-outs, including lease obligations and the timing of closures.
- Resolution and potential financial impact of significant litigation and investigations; many exposures were not estimable in this filing.
- The final accounting and cash effects of the AIU London sale, and whether International growth can offset continuing domestic weakness.