Grand Canyon Education, Inc.
Q1 2022 Earnings Call Transcript

Published: 4 May 2022

[Operator:]

Good afternoon, ladies and gentlemen and welcome to the First Quarter 2022 Grand Canyon Inc. Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to turn the conference over to your host, Mr. Dan Bachus, Chief Financial Officer.

[Daniel Bachus:]

Joining me on today's call is our Chairman and CEO, Brian Mueller. Please note that many of our comments today will contain forward-looking statements that involve risks and uncertainties. Various factors could cause our actual results to be materially different from any future results expressed or implied by such statements. These factors are discussed in our SEC filings, including our annual report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K. We undertake no obligation to provide updates with regard to the forward-looking statements made during this call and we recommend that all investors review these reports thoroughly before taking a position in GCE. And with that, I'll turn the call over to Brian.

[Brian Mueller:]

Good afternoon and thank you for joining Grand Canyon Education's first quarter 2022 conference call. 2021 was a difficult year in higher education. Grand Canyon Education came through the year amazingly well as compared to the rest of higher ed. Most important, the overall trends predicted for 2022 in the sector continued downward, while Grand Canyon Education will resume its consistent upward trend for 14 years and is positioned to do very well the next 10 years. COVID had a negative short-term impact on all three of our pillars. However, long term, the negative impacts on the rest of the sector have turned into positives for GCE because of how it has positioned itself, especially the last three years. I will explain as I talk about each pillar individually. First is GCU traditional campus. Both the number of high school graduates per year and the percentage of them going to college has declined in recent years and that has resulted in lower enrollments at many universities and community colleges. It has also caused some universities to lower their admissions requirements in order to boost their enrollments. In the fall of 2021, GCU's traditional campus actually saw an increase of 6.2% in new students over the prior year, an increase of 9.5% in total enrollment and an increase of 25.8% in residential enrollment. Approximately 70.3% of GCU's ground traditional students now live on its residential campus. The momentum continued as spring new enrollments were up 39.6% over the prior year. The average incoming GPA of this year's class rose to 3.6 and the prestigious Honors College grew 8.4% to almost 2,800 students with average incoming GPAs of 4.1. These are remarkable results given the overall trends

[Daniel Bachus:]

Thanks, Brian. Included in our Form 8-K filed with the SEC, we have included non-GAAP net income and non-GAAP diluted income per share for the three months ended March 31, 2022 and '21. The non-GAAP amounts exclude the tax-affected amount of amortization of intangible assets of $2.1 million in the first quarters of both 2022 and 2021 and the loss on fixed asset disposals of $0.6 million in the first quarter of 2022, primarily related to the write-down of our former learning management system. We believe the non-GAAP financial information allows investors to develop a more meaningful understanding of the company's performance over time. As adjusted non-GAAP diluted income per share for both of the three months ended March 31, 2022 and '21 is $1.72. Service revenue exceeded our expectations in the first quarter of 2022, primarily due to higher-than-expected GCU room and board and ancillary revenues and slightly higher-than-expected spring semester hybrid revenues. Enrollments for all three student types were in line with our expectations. Revenue per student continues to grow on a year-over-year basis, primarily due to increased room, board and other ancillary revenues from GCU students as compared to the prior year period and the growth in enrollment for hybrid students. Service revenue per student for hybrid students generates a significantly higher revenue per student than we earn on the other students as these agreements generally provide us with a higher revenue share percentage, partners have higher tuition rates than GCU and the majority of their students take more credits on average per semester as they are in accelerated programs. Our operating margin, excluding the fixed asset disposals, was in line with our expectations. As I discussed on last quarter's earnings call, we have restarted hiring in which head count has mostly been flat since March 2020 for our expected future growth which is driving increased compensation costs in technology and academic services and counseling services and support cost. We plan for a significant increase year-over-year in travel and employee benefits as those amounts were significantly lower than pre-COVID levels in the prior year. We also plan for increased clinical costs at off-campus classroom and laboratory sites due to the nursing shortage. And the year-over-year difference in the timing of new site openings, all new sites in 2021 were opened in the first half of the year, whereas nearly all new sites opened in 2022 will be in the second half, is having a negative impact on both revenue and expense. Generally, expenses were in line with our expectations, although travel and benefit costs were higher than we expected in the first quarter of 2022 and head count was below our expectations. Included in both our 8-K and the 10-Q filed today is a detailed explanation of the actual and anticipated impact of COVID-19 on all our university partners. Our effective tax rate for the first quarter 2022 was 25.2% compared to 20.4% in the first quarter of 2021 and our guidance of 25.3%. In the first quarter of 2021, the effective tax rate was significantly impacted by excess tax benefits of $4.4 million as a result of exercises of the remaining stock options held by employees prior to their expiration. Excess tax benefits totaled only $0.1 million in the first quarter of 2022. In the first quarter of 2022, our first quarter tax rate was unfavorably impacted by an increase in the state income tax rate. We repurchased 4,575,048 shares of our common stock in the first quarter of 2022 at a cost of approximately $394.9 million and another 1,006,964 shares at a cost of $99.8 million subsequent to March 31, 2022. We have $100.7 million remaining available as of today under the previously approved share repurchase plan. We estimate that we will spend at least $52 million on share repurchases over the rest of 2022. Turning to the balance sheet and cash flows. Total unrestricted cash and short-term investments at March 31, 2022, were $264.3 million. GCE CapEx in the first quarter of 2022, including CapEx for new off-campus classroom and laboratory sites, was approximately $6.8 million or 2.8% of service revenue. We continue to expect CapEx for 2022 will be between $30 million and $35 million. Next, I would like to provide color on the updated guidance we have provided in our 8-K filed today. The guidance that we have provided continues to be non-GAAP, as adjusted net income and as adjusted diluted income per share, as we have excluded amortization of acquired intangible assets and the fixed asset disposal. Last quarter, we provided ranges for revenue, operating margin and earnings per share for each of the four quarters in 2022. We do this because our financial results are seasonal. We have raised the revenue and operating margin guidance for the year for our revenue and operating income beat in the first quarter but have not adjusted the guidance for the remainder of the year as the majority of the beat in the first quarter was related to higher revenue generated at GCU's traditional campus in the spring semester that ended in mid-April. The summer and fall GCU ground enrollments continue to trend such that they should meet or exceed expectations. As you'll recall, the difference between the high end and low end of our range -- ranges was primarily due to differing enrollment assumptions for GCU online and hybrid enrollment. Hybrid enrollment was in line with our expectations in the spring semester and demand is strong but the clinical capacity issues at both new and existing sites, as a result of the nursing shortages and the prerequisite challenges Brian discussed earlier, will continue to pressure our cohort sizes for the foreseeable future. The high end of our revenue guidance also assumed GCU Online would return to new enrollment growth in the second quarter of 2022, whereas the low end assume new starts would be down in the mid-single digits in the quarter. As Brian mentioned earlier, the B2B reps activity continues to improve which gives us confidence that new and online enrollments will return to year-over-year growth. However, to consistently grow new enrollments, our head count needs to continue to grow at a certain level. And although we are adding head count, we are not where we plan to be due to the labor situation. Thus, based on these factors, it is likely that we will be at or near the midpoint of our range in the second quarter. We have adjusted the effective tax rate for the last three quarters of 2022 slightly to 24.9%, 24.9% and 24.5%. The effective tax rate continues to be higher in 2022 than in 2021 as revenues continue to grow at the off-campus classroom and laboratory sites outside of Arizona and the majority of these states have higher state income tax rates in Arizona. These estimates also do not assume a contribution in lieu of state income taxes. But if one is made, that will increase G&A expense in the third quarter and decrease the effective tax rate in the second half of the year. We have increased our weighted average share count for the last three quarters. The Board remains committed to purchasing the same dollar amount of stock as previously discussed. But given the increase in the stock price, the number of shares that will be purchased will most likely be less. As was discussed last quarter, the primary reason the Board has been so aggressive in its stock buyback activity is that it believes the stock was considerably undervalued. Even with the increase in stock price, the Board still is of that opinion. A couple of the key metrics the Board looks at to make this determination is the ratio of enterprise value to adjusted EBITDA and a free cash flow yield rather than the multiples of other education companies, as although we can be viewed as being in the same sector, there are a few, if any, appropriate comps. On an enterprise value to adjusted EBITDA basis, the stock is currently trading at roughly 9.8 which is significantly less than the recent S&P average of 16.5. The average free cash flow yield for the S&P 500 remains below 2%, whereas the company's free cash flow yield is approximately 8.4%. I will now turn the call over to the moderator so that we can answer questions.

[Operator:]

[Operator Instructions] Your first question is from Jeff Silber from BMO Capital Markets. Your line is open.

[Jeffrey Silber:]

Thanks so much for taking my questions. Just wanted to clarify one of the statements, I think, Brian, you made in your opening remarks. I think you were talking about enrollments at Grand Canyon online looking for growth by year-end. Are you talking about new enrollments, total enrollments? If you could just clarify that, that would be great.

[Brian Mueller:]

New enrollments. If we get new enrollment growth towards the end of the year, three or four percentage points over prior year, that will be the thing that will obviously accelerate and eventually result in total enrollment growth.

[Jeffrey Silber:]

Okay, that's helpful. Some of the others in the [indiscernible] -- sorry, please go ahead. Yes.

[Daniel Bachus:]

Just to clarify, from a guidance perspective, again, our guidance assumes that total enrollment -- the high end of the guidance assumes that total enrollment will grow in each of the second, third, fourth quarter. The bottom end of the range assumes that we'll still be down mid-single digits second, third and fourth quarter. We're hopeful that we'll be able to grow new enrollments before the end of the year. But to be conservative, given the head count things and the other things we're talking about, I think that's where Brian's commentary is. That's a conservative assumption.

[Jeffrey Silber:]

Okay. I appreciate the explanation on that, Dan. Moving on to a different topic. There have been some others in the space that have talked about students being maybe less rigorous in terms of their coursework given the job markets, maybe taking fewer classes or not enrolling enough. Is that something you're seeing at any of your institutions?

[Brian Mueller:]

Well, at our ground campus at GCU, absolutely not. The trend is actually the opposite. Students are coming in, number one, enrolling in with our very rigorous academic programs. I mean, 65-plus percent of our students are in STEM areas. So the natural sciences, engineering, computer science, information technology, those areas are really growing. So students are choosing rigorous academic areas. And secondly, they're very intent on graduating in three years or 3.5 years. And so they're taking full loads and some even stay in the summer because our partner -- we have 8,000 high school partnerships. And so many of our students who are coming with -- GCU students are coming with 20, 30 college credits already earned that they can actually double major and do other kinds of things and graduate in three years and many will stay to do a master's degree program. So we're not -- no, we are not seeing that.

[Jeffrey Silber:]

And online, are you seeing that at all?

[Brian Mueller:]

No. And I think the reason we're not is because if you look at the major players online, one thing -- the one way that we're really different is that we've got a lot more programs. And our students tend to come -- and 50% of our students are studying at the graduate level. So they are not people that are just coming to complete a degree just to say they have completed a degree. They really have more specific objectives that they're trying to achieve. And so our retention numbers are strong and we're not seeing any reduction in revenue per student on an annual basis as a result of them taking fewer classes.

[Jeffrey Silber:]

Okay, that's great. If I could just sneak in one more. Really intrigued about the accelerated certificate program that you're talking about, I know it's still kind of in the launch phase. But can you talk about maybe the economics of that? How it compares to some of the other programs you have?

[Brian Mueller:]

Yes. I am excited about it, too. And I'm trying to downplay it because we've got to prove it, obviously. But the more you get into this nursing thing, the more you get frustrated by it but you also see the opportunity. It's really a crazy situation. We need 1.3 million additional nurses and there are unbelievable numbers of people out there that want to be a nurse and yet we have this shortage. And so there are bottlenecks in this thing that are incredibly frustrating. We've talked a lot about the clinical placements and what we are doing to replace some clinical placements with simulations and other instructional activities. And we're also rectifying that to some extent by having 80 locations. And we're -- so we're not having to double amount of clinical placements in any single marketplace. We just need a few more in 80 marketplaces and we can produce a lot more nurses. But then, the other bottleneck that is very -- became very clear to me is the one about preparing in the first two years. It's a crazy thing. Thousands of kids attend universities all over the country, hoping to be a nurse and literally thousands pile into universities. And then 5% or 10% of them get a shot at becoming -- getting into the nursing college as a junior. And the specific requirements to get in as a junior --they're not the same requirements. They change based upon the luck of the draw in terms of the strength of the applicants that particular year. And so it's really an exasperating experience for students and families. What we want to do is really give students the chance at a very high-end way to prepare in those pre-nursing years for a nursing college. There are students that are in high school that have very good grades but can't afford to live on a college campus for four years, especially given the uncertainty of, "Can I get in as a junior?" And so we want to give them the opportunity to stay home and study online in a very rigorous academic setting. We're really good at teaching science at GCU on our campus. And we're going to be -- I think the goal is to be the best in the world at doing it online. And so there will be an opportunity for people to get involved in that curriculum, perform at a very high level, keep their cost to a minimum and then have lots of potential places to go as they near the first two -- end of the first two years. So that's one group. The other group is if you completed an academic degree in another field or you're partially completed, you have 60 credit college credits, for example, then you're going to go into a second certificate program or can go into a second certificate program is just based on mainly science courses. And that will be a little bit different than the full-time online students who will have a synchronous component. This other one will be completely asynchronous but there'll be tons of student support. But the idea is to get people into the courses within a month of them looking into it, not having to wait two semesters or three semesters or whenever the local community college might be happening to offer those courses but be able to get into it almost immediately, be able to finish the six or seven or eight courses they need in order to apply to a nursing school and then have a lot of different potential landing points when they perform very successfully in the classroom. The model has a lot of promise. The one downside to it is that we have 31 [ph] locations currently, eventually we'll have 80 but some students will have to move once they finish their work online in order to get into a 14- to 16-month accelerated program but we've already proven that students are willing to do it. And so we'll work with them hard as they move through the prereq courses in order to determine what would be the best landing spot for them given their individual circumstances. But I think, when you think about eventually 80 locations with an average of 300 ABSN students per location, that's 24,000 slots which means we have the opportunity to teach at the same price per credit students for basically a year. And so the financial result of that for GCE is going to look very similar to, for example, putting a student into an RN to BSN program. And so when you think of the thousands of students that could benefit from this, it's a significant potential player for GCE with the financial results to be very similar to a lot of our degree students.

[Jeffrey Silber:]

Thanks so much for the color.

[Operator:]

Your next question is from Jeff Meuler from Baird. Your line is open.

[Jeffrey Meuler:]

That one just if you could continue on with it for me. The -- so what are you telling the students? Like what's the transferability of credit to the Orbis partner network? And since you're talking about the concern of going through couple of years of undergrad and then not getting into a nursing degree, what are you planning on telling the candidates for the certificate nursing program?

[Brian Mueller:]

Well, the courses that we've developed have been approved by our partners. Now every partner has a different set of courses, slightly different set of courses that are necessary to get into their program. And so the students have to take the courses in the GCU prereq program that are required for those potential partners that they're targeting. We obviously can't guarantee entry. There are no guarantees of entry anywhere in the country today. But what we can tell them is that currently, we have double the number of slots available than we're currently filling. And we're going to add eight to ten locations -- or I should say, four to eight locations on an annual basis. And so the number that we're at currently, we're only 50% filling and the -- those slots are going to keep growing. And so obviously, you can't guarantee anybody anything but we're going to get a lot closer to that. Then they're guaranteed anything today and in a lot more efficient, we believe, cost-effective manner. So does that help?

[Jeffrey Meuler:]

It does. And then for GCU Online new enrollment trends, is it basically that the digital channel trends are stable and the overall improvement is coming from the normalization of the partner channel? And then to drive the growth once it normalizes, that's where you need the head count growth, is that accurate?

[Brian Mueller:]

Yes. Yes. We really have normalized in terms of the advertising campaign and the inside counselors. We just don't want to grow that significantly because we think the big opportunity to work with companies directly to provide their employees the chance to move up within their organizations which is a big emphasis, is a better way to do this long term. And that's the place that we're behind. And it's geographic. We're behind in those areas of the country where it's toughest to find people given the cost of living, California, New York, places like that. We're up to speed in places like Tennessee but in those other places where the cost of living is really high, we're a little behind.

[Jeffrey Meuler:]

Sure. And then on Orbis, I get that you're saying that the new internal enrollment was in line with your expectations. It was lower than I would have guessed and it decelerated to pretty low levels. So help us out with the leading indicators for that business in terms of either like student level, lead gen or where you are with working through the process for regulatory approvals for new sites or resolving some of the clinical capacity constraints, either in a more traditional way or with some of the alternatives that you've been coming up with, just so we can kind of monitor when that business should turn.

[Daniel Bachus:]

Yes. so the total enrollment number and this is why we sometimes don't love giving out enrollment, even though I know it's something important but I think it's very misleading in terms of how that business is really growing. Number one, you've got the huge tail -- headwind of the occupational therapy which is down roughly 30% year-over-year because they weren't allowed -- we weren't allowed to recruit any new students into that program for a very long time. So the graduations are -- we're now recruiting students but the graduations still continue to outpace the new enrollments allowed into that program. So that's hurting the overall enrollment. On the pre-licensure nursing as at -- just looking at pre-licensure nursing, it's misleading for two reasons. One, we really don't have any new locations that -- we opened one new location between the spring of last year and the spring of this year. We opened a location in Dallas in the spring of this year but there was nothing opened in the summer or fall of last year. So you don't have any growth coming from new locations. And there are some existing locations that have been at capacity for a number of years that, as we've talked about before, have taken a step back in their total enrollment because of the clinical challenges and prereq challenges, et cetera. And so all you have from really a growth rate standpoint is those locations that have opened in the last few years that weren't at capacity, that continue to grow. And so it looks like that business is not really growing. Again, I think that's very misleading. We're very excited about getting a number of locations open here in the second half of the year. Las Vegas will open. Salt Lake City will open. We're optimistic about a couple of MLS sites, the first MLS site opening. There is an outside chance that some of those other locations, like Seattle, that might open but those could be in 2023. So the pipeline is really good from new locations and new partners. And it's -- just to get back to the 20% growth rate that we want for that business, we have to get those existing mature campuses back to the full capacity which is where they've been up until the last six months. I don't know, Brian, anything to add to that?

[Brian Mueller:]

Only that the -- just to reiterate what we've already been talking about which is the bigger that Orbis got, the more it became clear that there were two major hurdles. One was the clinical placements but the other one was this prereq thing. The counselors were very frustrated when they had somebody that really wanted to be a nurse but they needed 30 or 40 additional credits and they would say go to a community college. Well, they might not even be the courses you need that are available for two semesters. I mean you're talking about a year to two years before you have a chance to do anything. That bottleneck has to be fixed for us to reach full capacity. And I think we have a plan that can bring a drastic change to that, improvement to that. That's what we're hoping.

[Jeffrey Meuler:]

Got it. Thank you.

[Daniel Bachus:]

We have reached the end of our first quarter conference call. We appreciate your time and interest in Grand Canyon Education. If you still have questions, please contact myself, Dan Bachus. Thank you very much.

[Operator:]

Ladies and gentlemen, this does conclude today's conference. Thank you for participating. You may now disconnect.