K12 Inc. Form 10-Q Summary
Entity and period: The filing is for K12 Inc., not Stride, Inc. It covers the unaudited quarter and six months ended December 31, 2011 (fiscal 2012 Q2), compared with the corresponding 2010 periods. K12 provides K–12 curriculum, technology and education services; managed virtual and hybrid schools generated approximately 86% of revenue. Results are unaudited and interim results may not indicate full-year performance.
Financial performance and position
| Metric | Three months ended Dec. 31 | Six months ended Dec. 31 |
|---|---|---|
| Revenue | $166.5 million, up 29.1% from $129.0 million | $359.8 million, up 36.3% from $263.9 million |
| Operating income | $7.1 million vs. $14.2 million | $15.4 million vs. $19.6 million |
| Operating margin | 4.3% vs. 11.0% | 4.3% vs. 7.4% |
| Net income attributable to K12 | $4.2 million vs. $7.8 million | $8.8 million vs. $10.0 million |
| Basic and diluted EPS attributable to common stockholders, excluding Series A allocation | $0.11 and $0.11 vs. $0.24 and $0.23 | $0.23 and $0.23 vs. $0.30 and $0.30 |
| Operating cash flow | Not separately reported for the quarter | Cash used of $19.5 million vs. cash provided of $7.1 million |
For the quarter, total costs and expenses were 95.7% of revenue, compared with 89.0% a year earlier. Selling, administrative and other operating expenses rose to 30.6% of revenue from 27.3%; product development rose to 4.5% from 2.6%. Six-month cost ratios also increased, with total costs and expenses at 95.7% of revenue versus 92.6%.
At December 31, 2011, cash and cash equivalents were $133.9 million, down from $193.1 million at June 30. Current assets were $389.1 million and current liabilities $119.7 million. Accounts receivable rose to $197.1 million from $96.2 million at June 30. Total liabilities were $161.5 million, including $32.0 million of capital lease obligations and $2.7 million of notes payable. The company had a $35 million revolving credit line with no borrowings outstanding; approximately $0.3 million was reserved for a letter of credit. Restricted cash was $1.5 million.
Six-month investing cash outflow was $34.0 million, including $12.6 million for the Kaplan/Insight asset acquisition, $14.9 million for property, equipment and software, and $6.5 million for curriculum development. Financing cash outflow was $5.9 million. Cash fell by $59.2 million over the six months. Management said available funds and expected operating cash generation should fund ongoing operations for the foreseeable future.
Material changes and management commentary
- Average enrollment for the quarter increased 46.4% to 143,933. Managed-school enrollment rose 46.2%, institutional business 53.2%, and private-school enrollment 31.6%. High-school students represented 35.1% of public-school enrollment, versus 25.9%.
- Management attributed revenue growth to higher enrollment and acquisitions, while potential state funding reductions and school deficit allowances reduced revenue. Acquisitions contributed approximately $10.4 million to quarterly growth and more than $26.2 million to six-month growth.
- Profitability declined despite revenue growth. Management cited expansion-related costs, infrastructure and ERP/CRM spending, acquisition integration, higher staffing, new initiatives, and a lower capitalization rate for development expenditures. High-school and other newer businesses were not yet at scale and pressured margins. Headcount increased approximately 40% year over year.
- Accounts receivable growth, including working-capital needs associated with Kaplan/Insight and new school launches, contributed to negative operating cash flow. Deferred revenue increased with enrollment and institutional sales; management noted that balances are generally highest early in the school year.
- The July 2011 Kaplan/Insight asset acquisition added school contracts and approximately $6.7 million of goodwill and $4.3 million of finite-lived intangible assets. K12 also had a 20% interest in Web International Education Group, with options to acquire a larger stake.
Outlook, risks and unusual items
- No specific numerical earnings or revenue guidance was provided. Management described state education budgets as pressured and said it had recorded reserves for potential funding proposals and school deficit allowances. It intended to renew the revolving credit line, which expires in December 2012, and the equipment lease facility, which expires in August 2012.
- A material weakness in internal control over financial reporting related to project management of the new ERP system remained unresolved at December 31. Management concluded disclosure controls were not effective; the weakness could have prevented or delayed detection of a material misstatement. Remediation efforts were underway but required further operation and testing.
- Legal matters included an IpLearn patent-infringement case and a securities class action filed in January 2012 alleging misstatements concerning financial results, school academic performance, and administrative and enrollment practices. K12 said it intended to defend the securities claims. An Aventa-related lawsuit was dismissed with prejudice in January 2012 without financial contribution from K12.
- K12 guaranteed approximately $6.7 million related to a 10-year lease for a newly managed hybrid school. Middlebury College held a put right over its joint-venture interest, recorded at $17.2 million; the agreement also contains a milestone-related asset repurchase provision.
- Management reported no material change to the risk factors in its latest Form 10-K. It also stated that no goodwill impairment trigger had occurred as of the quarter-end, with the annual impairment test planned for May 31, 2012.
Investor verification priorities
- Confirm the issuer identity: the supplied filing is for K12 Inc., although the request names Stride, Inc.
- Assess whether enrollment and revenue growth can translate into improved operating margins as expansion, infrastructure, and development costs continue.
- Track receivable collections, state funding adjustments, school deficit estimates, and operating cash flow, which was negative for the six-month period.
- Review progress remediating the ERP-related material weakness and any effects on the reliability and timeliness of future reporting.
- Monitor developments in the IpLearn and securities class-action matters, the planned renewals of credit and equipment lease facilities, and the Web investment options.