Stride, Inc. Q4 FY2021 Earnings Call

Good day and thank you for standing by. Welcome to the Stride Inc Fourth Quarter Fiscal Year 2021 Earnings Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions] I would now like to hand the conference over to your speaker today, Mr. Timothy Casey. Please go ahead.

Thank you, and good afternoon. Welcome to Stride's fourth quarter earnings call for fiscal year 2021. With me on today's call are James Rhyu, Chief Executive Officer and Tim Medina, Chief Financial Officer. As a reminder, today's conference call and webcast are accompanied by a slide presentation that can be found on the investor relations website. Please be advised that this call may include certain non-GAAP financial measures during the discussion of our financial results. A reconciliation of these measures is provided in the earnings release issued this afternoon, which is also posted in the investors section of our website. In addition to historical information, today's call may also involve forward-looking statements. The company's actual results could differ materially from any forward-looking statements, due to several important factors described in the company's latest SEC filings. The company assumes no obligation to update any forward-looking statements made during this call. Following our prepared remarks, we will answer any questions you may have. I will now turn the call over to James.

Thank you and good afternoon. We all appreciate what a difficult year this has been. Even in the face of this incredible adversity, Stride has been able to thrive. We've only been able to do so because of the commitment of our thousands of team members. These individuals have been dedicated to our customers and the families that need an alternative approach to education, now more than ever before. So I want to start by saying thank you to all of our dedicated staff. This is also a year in which the country and the world took notice of online and distance learning in a mainstream way, but the experience has not always been positive. Across the country, many schools struggled with uncertainty and inconsistency for students and families, as they vacillated between online and in-person instruction. Thankfully, our 20 years of experience enabled us to build a seamless experience for our customers. Our teachers, platforms, content, and curriculum are all designed to meet this need. Many have not embraced it, while others realize its potential if done the right way. We stand alone, having served millions of students in our online bundle. And while many schools struggled with learning loss and deteriorating test scores, our results outpaced them as we welcomed a record number of families to our programs. I will discuss how we are turning this around in a moment. First, I am going to review some of our fiscal 2021 accomplishments. By almost any measure, we had a record year, by a long shot. We helped over a quarter of a million full-time learners and millions of other users become interested in our programs. Learning loss became the norm, except in the schools we matched. No wonder the national data showed an overall enrollment decline. We published our first-ever ESG report backed by key initiatives, including a new partnership with the National Association of Black Male Educators designed to increase the diversity of teachers across the country. We launched a program with Teach for America to share practical online experience with student teachers. Additionally, our We Stand Together College Scholarship is a $10 million multi-year commitment to support underrepresented students. However, we are not relying on the tailwinds of the pandemic to set our long-term path forward. We rebranded our company from K12 to Stride to ensure that our name better reflects our commitment to providing educational opportunities for learners of all levels. We acquired two high-growth, higher-margin companies to expand our adult career learning offerings. We held an Investor Day to outline our strategy and growth trajectory through fiscal year 2025, a trajectory that I believe we are well on track to meet. We raised almost $360 million via a convertible note offering to facilitate further investments in both organic and inorganic growth. In our general education business, we saw student enrollment increase by almost 50%. With all the uncertainty this past year, we witnessed dramatic improvements in retention, both in our general education as well as our career education business. We did not see the mass withdrawal of students in the second half of the school year, as many states began to reopen their brick-and-mortar schools. This is a testament to the stickiness and value propositions of our programs. Students who enrolled in our career learning programs tend to retain at a higher level than our general education students, and we assume this trend will continue. We also experienced a record number of re-registration families, indicating that they will be returning for the fall. Our career learning business finished the year with over $250 million in revenue, an increase from less than $10 million just four years ago, showing a 150% compounded annual growth rate. This year, we saw growth of over 125%, with almost 30,000 students. Our programs offer a career path without requiring an expensive college degree, and we're expanding the programs from our MedCerts acquisition, which enables us to offer high school students certificates in the healthcare industry. Both our MedCerts and Tech Elevator acquisitions continue to grow and contribute to the bottom line, exceeding our expectations since their purchase. These high-growth, high-margin market opportunity platforms will continue to be leveraged into other areas of our business, particularly our high school programs. We will continue our focus on IT and healthcare training, anticipating that these industries will generate more than 2.5 million new positions in the U.S. by 2029. Conversely, our Galvanize acquisition has not performed according to our plan. We've restructured this business and believe we now have a glide path to renewed growth and profitability heading into next year. We will also seek additional investments to expand our adult learning offerings with the aim of growing our career learning business into a $1 billion-plus venture. In June, we released our inaugural ESG initiatives report. As an education and career learning company, we have a significant opportunity to contribute to global education, workforce, and diversity goals. All our ESG initiatives are founded on four cornerstones; extending lifelong learning for today's competitive workforce; supporting racial and socio-economic equity and inclusion; fostering transparent leadership, governance, and professional development; and contributing to a more sustainable world. For me, our focus on learning outcomes is the most important aspect of all our ESG efforts. Stride is uniquely positioned to influence the lives of millions of students of all ages. Not many companies have that kind of impact or carry that responsibility. We don't take that responsibility lightly. By now, everyone is aware of the significant labor shortages impacting the workforce. Stride is well-positioned to help alleviate that shortage. To that end, we have set 10-year goals driven by learner outcomes. By 2030, our goals are to graduate over 100,000 students from our Stride career high school program, to graduate hundreds of thousands of students from our adult programs, and to achieve leading graduation and learning growth rates for over a million students. Our report contains much more specific information about our ESG efforts. I encourage everyone to read it; it can be found on our Investor Relations website, and there's a direct link in today's earnings presentation. Now I want to turn to fiscal year 2022. The long-term trends and prospects for our general education and career learning business remain tremendous. The COVID-19 pandemic has heightened consumer awareness of the need for, and benefits of, online education in grades K through 12 and in adult learning. Although it doesn't work for everyone, many students and families have come to realize that online learning and the flexibility it provides is a preferred alternative. Increased awareness and openness to different options to meet educational needs fundamentally provide long-term tailwinds for all aspects of our business. As we've done every year, we will strive to provide formal fiscal 2022 guidance during our first quarter earnings call in October. While we aren't providing guidance right now, I want to give some insights into the current enrollment trends. Even now in August, we're still less than halfway through our typical enrollment season, which means these trends could shift in the coming weeks. Additionally, the pandemic has increased uncertainty around all these metrics, so please don't extrapolate too far. We have not seen the massive withdrawals that occurred in previous years. Currently, we are exceeding the number of registrations compared to fiscal 2021 and previous years. Awareness of our offerings is at an all-time high; the pandemic has increased awareness and we no longer have to explain what virtual learning is. Families understand it, and they now just need to choose. Conversion rates from our new leads are also at an all-time high. When families seek us out, they are more likely to enroll. We believe that health and safety continue to be top priorities for families, and we are seeing even stronger demand in states where the Delta variant has surged. Our goal is clear; we want to grow every year, and importantly, we remain on track to achieve the long-term revenue and profitability targets that we outlined during the Investor Day last fall. We still anticipate achieving revenue of $1.94 billion to $2.2 billion, and adjusted operating income of $250 million to $350 million by the year 2025. Thank you for your time today. Now I'll hand the call over to Tim to discuss our full year 2021 results. Tim?

Thank you, James, and good afternoon, everyone. First, let me recap our reported results. Revenue for the full fiscal year 2021 was $1.54 billion, an increase of 48% over the prior fiscal year. Adjusted operating income was $161.4 million, up 160% compared to the prior year. Capital expenditures were $52.3 million, an increase of $7.3 million over last year. In each case, these results met or exceeded the expectations we set in our guidance last quarter. The outperformance was primarily driven by favorable enrollment and retention revenue. Looking ahead to fiscal 2022, it is still too early to confidently forecast our current enrollments for the reasons James just outlined. Given where we are in the process, there remains variability around two key factors: firstly, ongoing re-registration and new enrollments; and secondly, the retention of these enrollments once school starts and through September. Here’s what I can say today about fiscal year 2022. We expect to improve adjusted operating income and adjusted EBITDA year-over-year compared to our strong fiscal year 2021 results. This is thanks to expectations of continued strong revenue growth and career learning, margin improvements, and higher operating leverage. Furthermore, we believe that the increased awareness and acceptance of online and hybrid education, accelerated by the COVID-19 pandemic, has sustainably reset the baseline for the general education business. Therefore, we are confident that general education revenue in fiscal year 2022 will be significantly larger than it was in fiscal year 2020. As we have done in the past, we will refrain from providing guidance until we report our first-quarter fiscal 2022 results in October. By that time, we will have much greater visibility into enrollments for the new school year. Returning to our results for fiscal year 2021, revenue from our general education business increased $346 million, or 37%, to $1.28 billion. This growth was primarily due to higher enrollments, partially offset by lower revenue per enrollment. General ed enrollments rose 45% year-over-year to more than 156,000, while revenue per enrollment declined 5%. The decline in revenue per enrollment was primarily due to state budgetary pressures resulting from COVID-19 and a higher mix of lower-funded states. As we stated last quarter, we expect revenue per enrollment to improve next year, given what we know today about state budgets and policies. Career learning revenue rose to $256.6 million in FY21, an increase of 140%. This growth was driven by significantly higher volumes in our Stride Career Prep Programs, as well as organic growth and new acquisitions in our adult learning business. We plan to continue growing our Stride Career Prep Programs in FY22 with plans to open four new programs and expand eight existing programs in FY22. Gross margins were 34.8%, up 140 basis points compared to fiscal 2020, driven by an increased contribution from higher-margin adult learning businesses, and lower costs from efficiencies and automation initiatives. We expect margin improvement to continue into fiscal 2022. We are confident we will achieve our 36% to 39% gross margin targets much sooner than fiscal 2025, which was our original target communicated during our November 2020 Investor Day. Selling, general, and administrative expenses were $424.4 million, up 35% compared to fiscal 2020. The increase in SG&A was driven primarily by higher costs associated with our enrollment growth and an increase in stock-based compensation expense, as well as the amortization of expenses for adult learning businesses. Adjusted EBITDA of $239.9 million reflects an increase of 87% over FY20. The adjusted EBITDA margin improved 400 basis points, from 12% of revenue in FY20 to 16% in FY21. The margin improvement and growth in adjusted EBITDA are driven by higher revenue and improved operating leverage. Stock-based compensation expense came in at $39.3 million, up 67% year-over-year, driven by the timing of certain stock-based grants tied to our career learning business. We currently expect stock-based compensation expense to decline to a range of $30 million to $34 million in FY22. Interest expense totaled $18 million for fiscal 2021, in line with the expectations we provided last quarter. This consisted of approximately $5 million in cash interest and $13 million in non-cash amortization of the discount and fees on our convertible senior notes. In the first quarter of fiscal 2022, we early adopted new accounting guidance related to our convertible notes. This will result in the elimination of the non-cash debt discount expense, among other impacts. As such, we expect our interest expense in FY22 to be materially lower and more in line with the cash interest we recognized in FY21. Our full year tax rate for FY21 was 26%, below the guidance range we provided last quarter. We had some positive tax benefits related to stock-based compensation that resulted in lowering our tax rate for the year. In FY22, we anticipate an increase in non-deductible compensation that will cause our tax rate to be closer to the 28% to 30% range. Capital expenditures for the year totaled $52.3 million, up 16% from the prior year, due mainly to higher capitalized software development costs associated with adult learning, automation, and improvements to our platforms. CapEx, as a percentage of revenue, was 3.4%, lower than our historical average of approximately 4% to 5% over the past few years. Free cash flow, defined as cash from operations less CapEx, totaled $81.9 million for FY 2021. This was approximately $45 million below the expectations provided during Investor Day last November due entirely to the timing of receipts, which drove lower than expected cash from operations. Some of these timing issues were associated with our growth in states that regularly pay in the following year, and some were due to delayed payments resulting from COVID. In fiscal 2022, we expect to have significantly higher free cash flow, reflecting these timing issues from fiscal 2021. Finally, we ended the year with cash and cash equivalents of $386.1 million, an increase of $173.8 million compared to the same period a year ago. We believe strong free cash flow generation and liquidity will continue to provide the financial flexibility to fund our operations and pursue strategic acquisitions. To summarize, fiscal 2021 was a landmark year for Stride. We saw record enrollments in both our general education and career learning businesses, which drove double-digit growth in revenue, adjusted operating income, and adjusted EBITDA. Our career learning assets, which accounted for less than $7 million of revenue four years ago, generated over a quarter billion dollars in revenue during the year, indicative of the tremendous demand for career education offerings and Stride's innovation and leadership in this market. Additionally, we continue to improve our margin profile and bolster our cash and liquidity position while maintaining a low level of indebtedness. As James mentioned, we could not be more excited about the prospects for our business, and we will continue to execute on our high-growth career learning strategy and margin expansion initiatives. And with that, I'll turn it over to the operator for Q&A.

[Operator Instructions] First question comes from the line of Jeff Goldstein of Morgan Stanley.

Hey, guys, good evening. So I know in your prepared remarks, you mentioned re-registrations are performing very well. So I have to ask, are you able to put some numbers around that or other figures that could help us better understand the trajectory of enrollments to this point; or, if not, broadly speaking, are enrollments coming in above your expectations at this point? And then when you mentioned enrollments are doing well where Delta has surged, would you characterize that as making up a majority of your enrollment base? Just trying to think overall, like additional color that you have around either enrollment trends and how Delta is affecting that really.

Hey. It is James. As we said, we're not providing any guidance right now, so really can't give you a lot more color than what we've given you. The enrollment trends, re-registration trends are very strong; we're seeing more than we've ever seen. We're not disclosing new percentages. The Delta there, you can see a lot of the states that have spikes; in places like Texas, we just see unprecedented demand, very similar to what we saw last year. So we see that spike happening now. We think that a lot of people will have ongoing concerns about safety, and we think it bodes well for the long-term prospects for the business, but we're not going to provide more color right now.

Okay. No problem. I thought I would ask. And then I know a bigger focus for you recently is trying to sell more digital services on an ad hoc basis for districts that may not need a fully managed program. So I'm curious if there's any update on progress there and what type of demand you're hearing from districts for those services as we enter another year of that likely as some virtual options.

Yeah, it was really good. Last year, that sort of district business, if you will, almost doubled and so we saw a lot of good business there. We continue to see a lot of interest in our pipelines. I think, at this stage in the year, our pipeline for that business is actually stronger than it's ever been. We also have states like California that are sort of mandating districts to get ready for some legislation there that helps us and helps providers like us. Honestly, I think that trend means that the district demand trend, irrespective of the pandemic, is unlikely to go away because who knows what the future holds. Most districts just don't have the resources or skills to easily stand up and down programs like ours, and generally, I think they need to concentrate on the programs they currently have. So, in many cases, it just makes more sense for them to outsource to someone like us.

Alright. Thanks a lot. I appreciate the color.

Next question comes from the line of Jeff Silber of BMO Capital.

Thanks so much. Again, I appreciate that you're not providing guidance for the current year, but you did give us some indication in terms of where you expect both adjusted operating income and adjusted EBITDA to go. Can we get a little bit more color on what's driving that in our specific segments, specific leverage, anything you can help us out on would be great?

I think the biggest factor is what we laid out in our Investor Day presentation, which is we believe gross margins will improve, driving great leverage in our business. Obviously, we'll keep a close eye on SG&A expenses. We're quite confident we can continue to grow our bottom line, irrespective of what happens here for the rest of the season.

Okay, fair enough. You had also talked about expectations for revenue per student in your general education business to grow in the current fiscal year. I think you said that budgets you've been tracking so far. I know a lot of the federal stimulus money is not directly allocated to you, but are you seeing benefits or do you expect benefits from that? If so, will that continue beyond fiscal 2022?

Yeah, the good news and the bad news is, is that we're really not seeing much of a benefit for us. I think those dollars, as you said, are not really directed towards us, either directly or indirectly. We could provide some limited service, I think, in some instances where districts may choose to allocate some of those dollars for some things that we can help them with. But we're not really seeing a big bump in that. We don't expect to see it. However, the other side of that is that it's also nothing that's going to disappear in future years. So, while having that one-time bump might not have been meaningful anyway, we are focused on helping the districts in any capacity we can.

Okay, that's great to hear. Thanks so much.

Thank you.

Next question comes from the line of Alex Paris of Barrington Research.

Thanks for taking my questions. No one asked you any more regarding the fall, but I'm glad to see that early leading indicators are positive. I wanted to say it was down this year. I noticed though, at least from the press release, it looked like it was down more than the general education side. What's going on there?

[indiscernible] a little more. I think it is predominantly a function of mix. A lot of our career learning programs have a lot of larger programs; they just happen to be in states with slightly below-average revenue levels. I won't read too much into it, honestly, and I think that over the next several years, it'll normalize back.

Okay, fair enough. And then specifically, during fiscal '21, California's approach to funding impacted revenue per enrollment for the full year. For example, as I recall, they did not fund incremental students, yet you served them anyway. Has California finished the budget and what are their plans for the coming year? How do you expect your California schools to be funded?

We do expect our enrollments to be fully funded from California in fiscal 2022, Alex.

Okay, great, and then that'll contribute to an increase in '21?

That's correct.

Just a follow-up on a prior question and comment; federal stimulus, it's not aimed at you but the school districts benefit, so would you expect a benefit to LRN in your learning solutions business as a result?

I don't think we're seeing a material benefit. Of course, there could be some potentially, but just in the overall context of our business, those aren't dollars we will specifically pursue. What we're doing is trying to provide programs for as many districts as need them, either for the fall or even in an emergency situation. Ultimately, we allow the district to decide how they fund it, whether it's from their dollars, federal dollars, or any other sources they may have. So we don't want to get too involved in how they allocate their funds. That's the districts' prerogative.

Okay, fair enough. And I guess the last one I'll ask you is that I think I know the answer to this. I don't think you have any new states planned for the coming year. I appreciate the fact that you're going to open up for new Stride career preps, and you're going to expand eight, but what about new states in general?

No new states are anticipated for fiscal year 2022 at this point.

Okay, that's what I thought. Thank you very much.

Thanks, Alex.

[Operator Instructions] Next question comes from the line of Stephen Sheldon of William Blair.

Hi. Thanks for the question. So it seems like the gross margin improvement is trending a bit ahead of schedule here. I wanted to ask if you have any update on the efficiencies and the efficiency of improvements that you had in progress, such as the automation of the enrollment process that we - that you all had spoken about previously?

Sure. Well, this is the first enrollment season where a parent can fully interact with a human on our side to enroll their students. So that's a significant plus for us, resulting in outstanding customer satisfaction. Most interactions occur this way, and we have managed to address questions effectively. That capability has been fully operational, Stephen, and it serves as a big example.

Okay, thank you. And then another quick one. It seems like, for the most part, trends were positive in career learning with the obvious exception of Galvanize. Just curious if you could expand a little bit on what's going on there, and what kind of headwinds are you seeing?

Yeah, I mean, you may remember the Galvanize business consists of three components. There is a direct-to-consumer piece, an enterprise piece, and a community piece, akin to a WeWork-like real estate business. I think, obviously, in the past year, since the pandemic hit, the community business crumbled under us. We closed the acquisition early in the first calendar quarter of last year, and then the pandemic hit late in that calendar quarter. Virtually during our fiscal year 2021, we had a very weak community business. Furthermore, the pipeline for the enterprise business did not materialize as we projected, resulting in underperformance. The consumer segment has a great product; I believe it will continue to thrive. They successfully place their students in many leading technology companies across the country. We are focused on the consumer business and will cut costs from those other segments to turn this around this year. While it may be smaller than we originally expected, we still believe we can put it on a path to create substantial value for us.

Okay. Makes sense. Thank you for the questions.

Thank you.

There are no further questions at this time. Presenters, you may continue.

Great. Thanks for the call today, everybody, and we'll see you in October with guidance.

This concludes today's conference call. Thank you for participating. You may now disconnect.