Brian M. Roberts - Grand Canyon Education, Inc. Brian E. Mueller - Grand Canyon Education, Inc. Daniel E. Bachus - Grand Canyon Education, Inc..

Jeff P. Meuler - Robert W. Baird & Co., Inc. Peter P. Appert - Piper Jaffray & Co..

Good day, ladies and gentlemen, and welcome to the Grand Canyon Education First Quarter 2017 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. As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Mr. Brian Roberts, General Counsel. Sir, you may begin..

Thank you. Speaking on today's call is our Chairman, President and CEO, Brian Mueller; and our CFO, Dan Bachus. 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 up financial position in Grand Canyon. And, with that, I will turn the call over to Brian..

Good afternoon and thank you for joining Grand Canyon University's first quarter 2017 conference call. In the first quarter of 2017, enrollments grew by 11% and revenues grew by 9.4%. New enrollments grew in the mid-teens year over year. Operating margins are at 30.9%. We had another great quarter.

I again want to thank our faculty and staff for their hard work and the incredible results they continue to produce.

As many of you know, our long-term goals are to grow the University's enrollments by 6 percentage points to 8 percentage points per year, grow revenues by 8 percentage points to 9 percentage points per year, and grow margins by 20 basis points on an annual basis without raising tuition.

The enrollment growth is a combination of online enrollments growing 6% to 7% and our traditional campus enrollments growing by 8% to 10%. Revenue growth will happen as a result of continued increases in retention levels and ground enrollments becoming a larger percentage of total enrollment. Revenue typically exceeds enrollment growth.

This quarter it did not due to a shift in the start dates for the spring semester for ground traditional students. This past weekend, we finished the traditional academic year with six graduations in our arena attended by approximately 30,000 graduates, family members, and friends.

What is becoming so obvious is that the student stereotypes that fund and supply to not-for-profit, and for-profit universities are gross over simplifications. There is a wide spectrum of institutions in the for-profit sector even as there is a wide spectrum of institutions in the not-for-profit sector.

Institutional comparison should be made according to their programmatic and student types, and not with respect to their tax status. We had 17,400 students on campus this year, and that number will grow to over 19,000 next year. Average incoming GPAs of the approximately 7,000 new students next year will be about 3.5.

Our Honors College will grow to 1,500 students, and their average incoming GPAs will be over 4.1. Grand Canyon University continues to look more like a traditional university than many not-for-profit traditional universities. For example, many universities are struggling to provide robust co-curricular activities for students.

These activities have been a huge part of a college student's education for decades. Our economic model allows us to continue to expand that part of the student's experience, and is becoming one of the reasons students are selecting GCU.

In the year we just completed, we had approximately 1,000 students participating in music, theater, dance and digital film. Our parliamentary debate team finished ranked 14 out of 159 teams nationally, and our team is the favorite in almost every event they participate in. Our chapel's attendance was between 5,000 and 7,000 on a weekly basis.

We had 9,000 students involved in intramurals and next year we'll have the largest club sports program in the country. Our Division I athletics program so far this year has won 6 conference championships including baseball, softball, men's golf, men's and women's track and field and women's tennis.

Next year, we will be eligible for NCAA tournament plays and our coaches and athletes are already preparing for a big year. As I mentioned earlier, for-profit and not-for-profit terminology as a way to categorize universities is outdated, overly-simplistic, inaccurate and in some cases unfair and harmful to students and graduates.

We continue to outpace our new online enrollment growth goals. One major contributing factor is that almost 15% of our new online enrollments came from 90 new programs, certificates and emphasis areas rolled out in the last two years. This is an area we will continue to focus on and invest in.

Second, the University's brand continues to grow, working adult students attending the campus in the evening or attending online told us repeatedly at graduation they chose GCU because they wanted to be part of a dynamic institution.

Retail sales of GCU gear, hotel stays, restaurant sales, season ticket sales, TV viewership and social media participation are all up on an average of 25% this year over the previous year.

Now turning to the results of operations; net revenues were $248.2 million in the first quarter of 2017, an increase of $21.2 million or 9.4% from $227 million in the prior-year period. Operating margin for quarter one 2017 was 30.9% in the first quarter compared to 30.3% for the same period in 2016.

Net income was $55.9 million for the first quarter of 2017 compared to $43.7 million in the prior-year period. After-tax margin was 22.5% compared to 19.2% for the same period in 2016.

Instructional costs and services grew from $94.7 million in the first quarter of 2016 to $102.6 million in the first quarter of 2017, an increase of $7.9 million or 8.4%.

This increase is primarily due to the increase in the number of faculty and staff to support the increasing number of students attending the University, an increased benefit cost between years.

In addition, we continue to see an increase in occupancy costs, including depreciation and amortization and property taxes, as a result of us placing into service additional buildings, especially laboratory-intensive stem buildings to support the growing number of ground traditional students in the fall of 2016.

As a percent of revenue, IC&S decreased 40 basis points to 41.3% due to our ability to leverage our growth in instructional costs and services expenses across an increasing revenue base.

Admissions advisory and related expenses as a percentage of revenue decreased to 12.9% from 13%, primarily due to our ability to leverage our admissions advisory personnel across an increasing revenue base. Advertising expenses as a percent of net revenue increased 60 basis points from 9.3% in quarter one 2016 to 9.9% in quarter one 2017.

With that, I would like to turn it over to Dan Bachus, our CFO, to give a little more color on our 2017 first quarter, talk about changes in the income statement, balance sheet and other items, as well as to provide updated 2017 guidance..

Thanks, Brian. Revenue exceeded our expectations in the first quarter of 2017, primarily due to higher online enrollments as a result of higher-than-expected new enrollments and higher-than-anticipated ancillary revenues.

Revenue per student decreased between years, primarily due to a shift in the timing of our residential and traditional campus start dates, as the spring semester started five days later in 2017 than in 2016, and we have one less day of revenue due to 2016 being a leap year.

Online revenue per student was down slightly year over year, primarily due to the one less day of revenue, the timing of the holiday break, mix changes and the fact that we did not raise tuition levels during 2016.

Scholarships as a percentage of revenue decreased from 19.1% in Q1 2016 to 18% in Q1 2017, due primarily due to decrease in the traditional scholarship rate year over year as a percentage of total revenue and an increase in the ancillary revenues, partially offset by growth in our ground traditional student base.

Online scholarships as a percentage of related revenue were up slightly year over year. Bad debt expense as a percentage of revenue improved slightly from 2% in Q1 2016 to 1.8% in Q1 2017. Our effective tax rate for the first quarter 2017 was 26.5% as compared to 38.0% in the first quarter of 2016.

The lower effective tax rate year over year is due to our adoption of the share-based compensation standard in the first quarter of 2017, which resulted in the recognition of excess tax benefits from share-based compensation awards that vested or settled in 2017 to be recorded in the consolidated income statement.

Previously, they were recorded directly to equity.

The inclusion of excess tax benefits and deficiencies as a component of our income tax expense will increase volatility within our provision for income taxes as the amount of excess tax benefits or deficiencies from share-based compensation awards are dependent on our stock price at the date the restricted awards vest, our stock price from the date an option is exercised, and the quantity of options exercised.

Our restricted stock vests in March each year, so the favorable benefit will primarily impact the first quarter of each year. This quarter, we've recorded an excess tax benefit of approximately $8.5 million, which was approximately $5 million higher than we anticipated, resulting in $0.10 of the first quarter EPS B.

This difference is primarily due to a higher stock price and a higher number of options exercised during the quarter than expected. As I will discuss in a few minutes, we have adjusted some of our assumptions for the rest of the year as a result. We did not repurchase any shares of our common stock for the first quarter of 2017.

We have $99.2 million available under our share repurchase authorization as of March 31, 2017. Turning to the balance sheet and cash flows, total cash unrestricted and restricted and short-term investments at December 31, 2016 was $240.4 million.

Accounts receivable net of the allowance for doubtful accounts is $9 million at March 31, 2017, which represents 3.7 days sales outstanding compared to $7.5 million or 3.4 days sales outstanding at the end of the first quarter of 2016.

CapEx in the first quarter of 2017, excluding our offsite development of $7.9 million was approximately $21.7 million or 8.8% of net revenue. We have commenced construction on an additional dormitory to accommodate the increasing number of ground traditional students.

Total CapEx for the year is still estimated to be between $80 million and $100 million, excluding the remaining cost incurred in 2016, related to the new student services center and parking garage in close proximity to our traditional ground campus in Phoenix, Arizona.

We repaid the $25 million in borrowing on our revolving line of credit in January, and continue to have a $150 million available to borrow on our line. Lastly, I'd like to provide color on guidance we've provided.

We've upped our ending enrollment and revenue guidance for each of the remaining three quarters of 2017, due to us exceeding our new enrollment expectations in the first quarter 2017.

Our enrollment guidance still assumes high-single, low-teens, online new start growth in the second quarter of 2017, and mid-single digit new start growth in the third quarter and fourth quarter of 2017.

The anticipated deceleration of start growth is due to the higher-than-expected growth in new starts that occurred at the end of the second quarter of 2016, and continued in the second half of 2016.

Our guidance still assumes a slight increase in retention and an increase in graduates between years of approximately 13% for the year, although, we are now projecting an increase of over 20% year-over-year in online graduates in the second quarter.

The significant retention gains we have seen in the recent years and the continued shift to high percentage of graduate students continues to result in year-over-year increases in graduates that exceed our total enrolment growth rate.

We estimate our total ground enrollment, which is ground traditional and professional study students to be 5,500 in the summer, 19,000 in the fall and 18,800 at the year end.

Our expectation for second quarter ground enrolment is down 200 students from previous guidance, as though the total summer school attendance appears that it will approximate our initial estimate, the number of students scheduled to attend in the first summer school term, which falls in the second quarter is less than expected.

Our revenue guidance continues to assume no tuition increase for our ground campus or online campus. We have slightly increased our full-year operating margin primarily due to higher-than-expected first quarter margin.

The margins for the remaining three quarters of 2017 have remained generally the same as the flow-through of the higher revenue is partially offset by small timing differences in spend. We continue to invest in new program development in various community projects. We've adjusted our expected effective tax rate for the rest of 2017.

The effective tax rate now, not including the effect of the new accounting pronouncement, increased slightly to 38.0% due to our higher income tax income before taxes. The effective tax rate included the effect of the new accounting pronouncement have been adjusted down in Q2 to 30.5%, and up in Q3 and Q4 to 36.3% and 38.0%, respectively.

Again, these are our best estimates at this time, and we will be impacted by fluctuations in our stock price and differences in the timing of estimated option exercise.

If a contribution in lieu of state income taxes is made in the third quarter of 2017, we'll have the effect of increasing general and administrative expenses and decreasing income tax expense. We have not adjusted our estimates of diluted weighted average shares outstanding.

Although, we might repurchase additional shares during 2017, these estimates do not assume repurchases. I will now turn the call over to the moderator so that we can answer questions..

Thank you. Our first question comes from the line of Jeff Meuler with Robert W. Baird. Your line is open..

Yeah. Thank you. Good afternoon. In terms of the success that you've had with the new program rollouts, just wondering how much legs that initiative could have.

So the programs that you rolled out thus farther driving the growth, do some of these have some pretty significant scale potential and can continue to grow over the next several years? And then, how many meaningful new programs are there still yet to roll out incrementally over the next several years?.

At least our goal is that we will roll out a minimum of 20 on an annual basis. It will probably exceed that. The programs largely are coming out of the existing nine colleges that we have. If there is any that have a chance to scale to a significant number, it would be in the IT areas.

But the rest are – many of them are in our core areas of education, healthcare, business, although we are growing in our IT programs and that would be the one that would have a chance to become one of our larger programs, possibly..

Okay. And then I just want to make sure that I'm hearing you right. It seems from the results and the tone that the demand environment remains good and you're executing well. So there is nothing in terms of the back-half guidance assumption of mid-single digit online new enrollment growth.

There is nothing other than the mathematically tougher comp that you're seeing, correct?.

That's it..

Okay.

And then just finally, Dan, what was the reason for the slight tweak down in Q4 adjusted EPS guidance?.

Higher effective tax rate..

Is that related to the stock option or the equity accounting or is it something else?.

No. It's almost all that. Because of our higher income, our permanent items are very small and so given a higher income, we saw a slight increase in our expectations of effective tax rate excluding the new accounting pronouncement. So that was 10 basis points or 20 basis points.

The rest is all because we believe that we're not going to get nearly as much benefit from stock option exercises in the tail half of the year. It's all been accelerated we think, but the vast majority will be accelerated into the first half of this year given the higher stock price..

Got it. Thank you..

Thank you. Our next question comes from the line of Peter Appert with Piper Jaffray. Your line is open..

Thank you. Good afternoon. Brian, I know you've addressed this in the past, but I'm wondering if you've given any route or further thought to the issue of just the cosmetics around margin performance. This is a good news-bad news, right? Your performance is outstanding, but it perhaps draws attention to you guys.

How do you think about that?.

Three or four years ago that was a concern. If you remember, there were people prior to The Great Recession commencing in 2008 that were producing huge margins and a lot of it was in the backup of annual tuition increases of 6% to 8% annually.

We're in a position now where the hybrid campus and the combination of the traditional campus and the online campuses becoming so efficient that our margins have expanded, but they've expanded without raising tuition. And so the value proposition that this continues to represent for students is tremendous.

It allows us to continue to reinvest in higher education, infrastructure and new programs and investors are experiencing positive results as well. So no, it does not at this point – it doesn't bother us like it did at one point..

Understood. Thank you. And then, another sort of big picture question, it feels like the competitive dynamic in terms of what you face in the online market has really shifted, right.

The state goal is taking a much bigger role, I'm thinking about this Purdue transaction, how do you think that impacts you and in particular this Purdue transaction?.

Well, it's the – funny you asked that question. The Purdue, if you look at carefully at the Purdue transaction, it looks very, very similar, not exact to the transaction that we proposed a while back..

Right..

And that transaction was basically approved by the visiting team and then voted down by the board. And so, we're going to be watching that carefully and see how that progresses. What we do in the future we don't know. We would do anything that we would do differently than today would be in the best interest of the university and our investors.

But it is to our – we need to keep watching to see how that goes. The reason we've been able to withstand the shift of students going to for-profit schools and going – and instead going to universities who are now – have now adapted to same delivery model is because for the most part students don't see us as a for-profit institution.

They see us as a traditional university with a growing dynamic and student body, and everything else that goes with that. And so that's been our big advantage.

If there's a way down the road for us to have a not-for-profit university and a for-profit service company, and that would be to the benefit of both the university and to our shareholders, we would consider that. We're just going to have to watch it.

But we've been able to withstand this thing, in fact not just withstand it, our brand is getting stronger. And the more people look into who we are, who are students are, our programs and our graduates, the more convinced people become, their tax status is irrelevant when considering a university and the benefits that you can get from university.

And that's why I made some of the comments I made earlier, because – and that's an important narrative that has to get out there to offset some of the comments of our detractors..

Right. Thanks, Brian..

Yes..

We've 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 either myself, Dan Bachus or Bob Romantic. Thank you very much..

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