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Strayer Education Inc.  (NASDAQ:STRA)
Q1 2019 Earnings Call
May. 01, 2019, 9:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Welcome to Strategic Educations First Quarter 2019 Earnings Conference Call. I will now turn the call over to Terese Wilke, Manager of Investor Relations for strategic Education. Ms. Wilke, please go ahead.

Terese Wilke -- Manager, Investor Relations

Thank you, Ashley. Good morning everyone and welcome to Strategic Educations conference call in which we will discuss first quarter 2019 results. With us today to discuss results are Robert Silberman, Executive Chairman for Strategic Education; Karl McDonnell, President and Chief Executive Officer for Strategic Education; and Daniel Jackson, Executive Vice President and Chief Financial Officer for Strategic Education. Following remarks, we will open the call for questions.

Please note this call may include forward-looking statements made pursuant to the safe harbor provision of the Private Securities Litigation Reform Act of 1995. The statements are based on current expectations and are subject to a number of assumptions, uncertainties and risks that Strategic Education has identified in today's press release that could cause actual results to differ materially. Further information about these and other relevant uncertainties may be found in Strategic Education's most recent Annual Report on Form 10-K, the 10-Q to be filed this week and other filings with the Securities and Exchange Commission as well as Strategic Education's future 8-Ks, 10-Qs and 10-Ks. Copies of these filings and the full press release are available for viewing on the website at strategiceducation.com.

And now, I'd like to turn the call over to Rob. Rob, please go ahead.

Robert S. Silberman -- Executive Chairman

Thank you, Terese, and good morning ladies and gentlemen. Q1 was a pretty straightforward quarter, not a lot to add from my perspective, but a lot of information. So let me just turn it over to Karl And Dan for details on our operating and financial results, after which I will stay for as long as you have questions.

Karl McDonnell -- President and Chief Executive Officer

All right. Thank you, Rob. Good morning, everybody. We were very pleased with our first quarter results that we announced this morning. Our operating and financial results are incredibly solid and our merger integration remains on track to be completed this year. First regarding our financial results, on a pro forma year-over-year basis, the Company generated a 31% increase in net income, resulting in $0.38 of additional earnings per share. That performance was the product of solid revenue growth of 8% combined with operating expense growth of just 2.4%.

Our $198 million of operating expense was net of $7 million of realized merger synergies in the first quarter. This resulted in a 38% increase in operating income and our operating margin expanded 430 basis point. The operating margin expansion consist of 300 basis points as a result of merger synergies and 120 basis points from improved productivity in the business. Within our segments Strayer's operating margin increased 390 basis points and Capella's increased 330 basis points. Our operating results remain quite strong at both Strayer and Capella Universities, where new student enrollment increased 13% and 15% respectively, while total enrollment increased to 11.5% at Strayer and 3.5% at Capella.

Capella's flex path programs continue to perform exceptionally well with new flex path enrollments increasing 52%, while total flex path enrollments grew 43%. Flex path enrollments now represent one-third of all non-doctoral students at Capella. Strayer University opened two new campuses in the quarter, one in Fort Worth, Texas and the other in Mobile, Alabama and the University remains on track to open an additional four to six new campuses in 2019 pending regulatory approvals.

Capella's first student support center will open in Atlanta, Georgia in the second quarter, while it's second new location in Orlando, Florida will now open in the third quarter. And finally our merger integration remains on track to be completed this year. In the first quarter, we implemented run rate synergy savings of $13 million, bringing our cumulative total run rate savings to $37 million.

Merger integration expense was $7 million for the first quarter and we expect an additional $8 million of integration expenses spread mostly evenly through the second, third and fourth quarters of 2019. And while I think it's likely we will continue to generate merger related savings in 2020, the initially communicated $50 million synergy target will be achieved this year. There continues to be widespread enthusiasm and collaboration across our organisations as our teams work together and deepen our best practice sharing. And again, I would like to thank and commend all of my colleagues across SEI for the tremendous commitment to our students and for all of their efforts that went into producing these results this morning. Dan?

Daniel W. Jackson -- Executive Vice President and Chief Financial Officer

Thank you, Carl, and good morning everyone. First, I want to remind everyone that our consolidated results include three segments, the Strayer University segment consisting of Strayer University in the Jack Welch Management Institute; the Capella University segment, consisting solely of Capella University; and the non-degree program segment, which includes our coding boot camp businesses and Sophia. Note, also that our consolidated results exclude the financial results of Capella Education Company that occurred prior to August 1st, 2018. For a pro forma view of our first quarter 2019 segment level results, please see the first quarter earnings release slide deck posted to the Investor Relations section of our website.

I also want to remind everyone that our earnings release references as reported or GAAP results and adjusted or non-GAAP results. This format is intended to illustrate the financial performance of the core business as reflected in the adjusted numbers in addition to our GAAP results. Our adjusted results exclude amortization expense related to Capella assets acquired in the merger, transaction and integration costs associated with the merger, Income from investments and partnership interests and certain discreet tax adjustments. Please refer to the non-GAAP financial information included in the first quarter earnings release we issued this morning for additional information.

In addition, as we commenced our first full year as a combined company, we are simplifying the presentation of our income statement to better align our financial reporting with how we think about expenses operationally. Instructional and educational support and admissions advisory expenses are now combined under instructional and support costs; and marketing and general and administration costs are now combined under general and administration. We will include in our 10-Q later this week a detailed illustration of how our previous expense line items map to the new line items.

Now for a few comments on our consolidated Q1 results. SEI's revenue for the first quarter of 2019 was $246.5 million compared to $116.5 million in 2018. Our adjusted income from operations for the quarter was $48.3 million compared to $16.7 million for the same period in 2018. Our adjusted operating margin for the quarter was 19.6% compared to 14.3% in 2018. Approximately 75% of our Q1 general and administration costs related to marketing investment compared to about 65% in Q1, 2018. Our first quarter 2019 adjusted operating income excludes $15.4 million of amortization expense related to intangible assets acquired in the merger and $7.2 million in merger-related costs.

First quarter 2018 adjusted operating income excludes $5.3 million in merger-related costs. First quarter 2019 adjusted net income was $36.7 million compared to adjusted net income of $13.9 million for the same period in 2018 and adjusted diluted earnings per share was $1.66, compared to $1.23 in 2018. Our adjusted effective tax rate for the first quarter of 2019 was 27.5%, which excludes amortization of intangible assets, merger costs income from partnership interests and a one-time book tax expense associated with the elimination of our deferred compensation plan. We continue to expect our adjusted effective tax rate for the second quarter and full year 2019 to be approximately 27.5%.

Moving to our first quarter segment results, Strayer University segment revenue for the quarter increased to 11.1% to a $128.1 million from $115.3 million driven by higher first quarter enrollment and stable revenue per student. For 2019, we continue to expect revenue per student for the Strayer segment to decline between 50 basis points and 100 basis points on an annual basis due to continued use of scholarships and the continued mix shift to lower paying corporate sponsored students. Strayer University segment income from operations for the first quarter increased to $25 million from $18 million last year and operating margin improved to 19.5% for the quarter compared to 15.6% in 2018.

Capella University segment revenue for the quarter was $114.7 million, reflecting higher enrollment and increased revenue per learner. For 2019, we expect flat to slightly higher revenue per learner at Capella University reflecting tuition increases that commenced in July 2018, offset by continued mix shift to our lower cost FlexPath programs. Income from operations for the Capella segment was $24.2 million for the quarter and the operating margin was 21.1%. Q1 2019 revenue for the non-degree program segment increased to $3.8 million from $1.2 million last year, mainly due to the inclusion of revenue from DevMountain, Hackbright Academy and Sophia. Loss from operations was $800,000 compared to a loss of $1.3 million in the same period in 2018.

Moving to the balance sheet and cash flow, we generated $58.7 million in cash from operations during the quarter compared to $17 million during the first quarter of 2018 and ended the quarter with $420.7 million of cash, cash equivalents and marketable securities and no debt. Bad debt expense for the first quarter was 5% of revenue compared to 5.5% for the same period in 2018. For capital expenditures, we spent $8.8 million during the first quarter compared to $4.2 million in 2018 and for the full year 2019, we continue to expect capital expenditures to be between $40 million and $45 million. And finally, we continue to maintain $250 million in available credit on our revolver. Rob?

Robert S. Silberman -- Executive Chairman

Thanks, Dan. With that, operator, we'd be pleased to answer any questions.

Questions and Answers:

Operator

Thank you. (Operator Instructions) And our first question comes from the line of Peter Appert with Piper Jaffray. Your line is now open.

Peter Appert -- Piper Jaffray -- Analyst

Thanks, good morning. The star performance continues to be very impressive Capella -- for Capella obviously, I assume it's the FlexPath, but for the Strayer University anything you'd call out in terms of the -- either programmatic offerings, marketing programs, et cetera that are driving the star performance and your thoughts on the sustainability of it?

Karl McDonnell -- President and Chief Executive Officer

Sure. Good morning, Peter. The only thing that I might call out that would be different than our last quarter, we continue to open new campuses on the Strayer side and all of those new campuses are performing well. As was the case last quarter, we still see pretty sound macro conditions. So I think just stay a strong fundamental economy combined with continuing to open physical locations on the Strayer side is clearly aiding up on new student growth. On sustainability as you know we don't provide forward guidance, but as I've said the macro conditions are quite favorable right now, and so we're optimistic heading into the rest of the year.

Peter Appert -- Piper Jaffray -- Analyst

Got it, thank you. And then, karl, the continuing student -- continue enrollment across the Capella. How do I interpret that? Is this just a function -- the fact that's significantly lower than the new enrollment growth that you've seen for the last several quarters. That's just a function of shorter programs or anything else I should know?

Karl McDonnell -- President and Chief Executive Officer

Are you referring to their total enrollment, Peter?

Peter Appert -- Piper Jaffray -- Analyst

No, I'm looking at the continuing enrollment was up 0.7% --

Karl McDonnell -- President and Chief Executive Officer

Yes, it is a function of mix shift to FlexPath where in some cases, particularly in the nursing program, students are getting through those programs in 12 months, 14 months. And so over time as Capella's new student enrollment continues to grow, I suspect that the continuing students will increase, but that will be offset to the extent that FlexPath is one of the primary drivers of growth because students are getting through those programs so much quicker.

Peter Appert -- Piper Jaffray -- Analyst

Understood. And is there a significant difference in student acquisition cost for the FlexPath offering versus traditional offerings and therefore would the margin profile of that offering be different.

Karl McDonnell -- President and Chief Executive Officer

No, they're relatively similar. A fair number of FlexPath enrollments again particularly nursing comes to the corporate channel where there is a relatively low acquisition costs. So they're relatively on par, Peter.

Peter Appert -- Piper Jaffray -- Analyst

Got it. And then lastly Karl, just interested if your thoughts, the margin performance has been better certainly than I had anticipated in the first couple of quarters of the transaction. I'm wondering if you're rethinking your expectations in terms of where the run rate margins could get in the next couple of years.

Karl McDonnell -- President and Chief Executive Officer

Well, it's not dissimilar from what we've talked previously. We estimated that the value of the $50 million synergies versus the Strayer pro forma stand-alone performance would be worth about 500 basis points, which gets you to roughly 20% margins. From there as you know, we are focused on various productivity initiatives and so, should our enrollment continue to grow, what we ultimately see as margins in the low to mid '20s.

Peter Appert -- Piper Jaffray -- Analyst

Right, OK. Thanks, Karl.

Karl McDonnell -- President and Chief Executive Officer

Thanks, Peter.

Robert S. Silberman -- Executive Chairman

Thank you, Peter.

Operator

Thank you. (Operator Instructions) And your next question comes from the line of Corey Greendale with burst analysis. Your line is now open.

Corey Greendale -- First Analysis Securities Corporation -- Analyst

Hi, good morning.

Robert S. Silberman -- Executive Chairman

Good morning Corey.

Corey Greendale -- First Analysis Securities Corporation -- Analyst

So, I got a couple of questions. On, first, I think you said that new FlexPath students were up 50%. I don't know that we have that number before. Can you give us a sense of how that -- what that is relative to what it has been over the past year or so?

Karl McDonnell -- President and Chief Executive Officer

It was 52% this quarter and it's been growing. New FlexPath learners have been growing 30% plus for the last couple of years, Corey. I don't have the full history, but we're happy to dig that out for you.

Corey Greendale -- First Analysis Securities Corporation -- Analyst

Okay. It might be helpful. So it sounds like it actually accelerated anything that you point to that would have helped us with that?

Karl McDonnell -- President and Chief Executive Officer

Other than just the continued strength of the nursing program and FlexPath, that's both the largest and fastest growing program in FlexPath within Capella.

Corey Greendale -- First Analysis Securities Corporation -- Analyst

Okay. And I think that, there has been some talk from the department -- making it somewhat easier to -- for universities to open direct assessment programs. Do you expect -- so I think the competitive environment has been relatively benign and that might start changing. Do you think even up of the head start there that you can kind of maintain the strength as competition may increase?

Karl McDonnell -- President and Chief Executive Officer

I think FlexPath is incredibly differentiated. It's got tremendous outcome. There is strong word of mouth. So we feel very good about FlexPath and we are very confident that that's a very differentiated program, notwithstanding the fact that others may attempt to do it. Capella has developed a real expertise in direct assessment and competency based assessments. And I suspect FlexPath will just continue to get stronger and stronger as we go.

Robert S. Silberman -- Executive Chairman

Hey Corey, this is Rob. Just the -- the only other thing I would say on that with regard to competitive pressure is that, our experience is, it's very difficult to do a academically sound, well run direct assessment program. And I think in the short term, there may very well be if there a lessening of regulations, more academic institutions attempting to do that. But over the long term, which is what we're focused on, I'm not particularly concerned that people will be able to build what Capella University has been able to build over the last five years with the same level of academic rigor and that's what's really going to drive the performance of these programs.

Corey Greendale -- First Analysis Securities Corporation -- Analyst

That's fair. And given that you have that expertise in-house any updated thoughts on Strayer University starting to offer direct assessment program?

Karl McDonnell -- President and Chief Executive Officer

It's something that we're actively considering FlexPath is a very unique program that is the best fit for individual students who bring a lot of workplace competencies into the classroom and we see that there may be some fit on the Strayer University side, it would have to go through two layers of approval. It will have to be approved first by Strayer's accreditor, Middle States and then subsequently by the Department of Education. But it is something that we're actively considering, Corey.

Corey Greendale -- First Analysis Securities Corporation -- Analyst

Okay. And as long as on the regulatory point hasn't been a huge (inaudible) shock conversation of late, but as I'm sure you know there's some things that are being proposed in popping up at a state level, including some things -- I think some states are proposing, requiring institutions to spend at least 50% of revenue on instruction, which may not make a lot of sense, if you can be more efficient doing some of the things you're doing with AI. So, anything going on at a state level that you're particularly focused on or concerned about.

Karl McDonnell -- President and Chief Executive Officer

We pay attention to all initiatives at any governmental level that would affect how we operate. But having been at this for a while we know it's a very heavily regulated business and it ought to be given the availability of government credit that really propels students opportunity to get their educations. So we keep track of everything, but there's nothing that's really popped out to us at this point that is significantly different from things that we've heard about before and will always operate the universities in compliance with whatever regulations are out there.

Corey Greendale -- First Analysis Securities Corporation -- Analyst

Got it. Well. Nice work post merger and I will turn it over.

Karl McDonnell -- President and Chief Executive Officer

Thank you.

Robert S. Silberman -- Executive Chairman

Thanks Corey.

Operator

Thank you. Ladies and gentlemen, this concludes today's Q&A session. I would now like to turn the call back over to Rob for any closing remarks.

Robert S. Silberman -- Executive Chairman

Thank you, operator, and thanks to everybody that participated. If you have other specific questions, please feel free to call Karl or Dan, and we look forward to speaking with you again in July. Thank you.

Operator

Well, ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. And you may all disconnect. Everyone, have a wonderful day.

Duration: 22 minutes

Call participants:

Terese Wilke -- Manager, Investor Relations

Robert S. Silberman -- Executive Chairman

Karl McDonnell -- President and Chief Executive Officer

Daniel W. Jackson -- Executive Vice President and Chief Financial Officer

Peter Appert -- Piper Jaffray -- Analyst

Corey Greendale -- First Analysis Securities Corporation -- Analyst

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