Stride, Inc. (NYSE:LRN) Q3 2023 Earnings Call Transcript

Stride, Inc. (NYSE:LRN) Q3 2023 Earnings Call Transcript April 25, 2023

Stride, Inc. beats earnings expectations. Reported EPS is $1.3, expectations were $1.07.

Operator: Good afternoon. My name is Emma, and I will be your conference operator today. At this time, I would like to welcome everyone to the Stride Inc Third Quarter 2023 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. Tim Casey, VP of Investor Relations. You may begin your conference.

Tim Casey: Thank you, and good afternoon. Welcome to Stride’s third quarter earnings call for fiscal year 2023. With me on today’s call are James Rhyu, Chief Executive Officer; and Donna Blackman, Chief Financial Officer. As a reminder, today’s conference call and webcast are accompanied by a presentation that can be found on the Stride Investor Relations website. Please be advised that today’s discussion of our financial results may include certain non-GAAP financial measures. A reconciliation of these measures is provided in the earnings release issued this afternoon and can also be found on our Investor Relations website. In addition to historical information, this 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 as described in the company’s latest SEC filings.

These statements are made on the basis of our views and assumptions regarding future events and business performance at the time we make them, and 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. James?

James Rhyu: Thank you, and good afternoon. The underlying systems and institutions in the U.S. and across the world can be fragile. We have seen this repeatedly over many decades. Headlines in the banking and technology sector are just recent examples. But each time we see these cracks in the economy, the U.S. has been resilient. And more often than not, we search forward through innovation. These cycles have enabled the U.S. to progress in amazing ways. The ways in which we travel, bank, shop and even eat have changed dramatically. It wasn’t that long ago that we did most of our banking shopping and transacting in person. However, it has not permeated all sectors equally. One of the sectors that has not evolved as dramatically is the education sector and most notably the K-12 education sector.

With our recent experience going through a pandemic, I would have hoped we would have emerged with more fundamental change in the system, particularly given the customer feedback we have heard. But I see kids in school largely the same way as they have for decades. Sure, there are some minor tweaks that technology is enabled but no real substantive change. That both disheartens me, but also gives me hope that Stride can begin to move the needle on the system that will power the future of this nation. From how we think about the trade-offs of skills versus knowledge, trade versus professions, college versus jobs, practical versus theoretical, should kids still be on a traditional belt schedule or should they have flexibility? Should all students really be spending the exact same amount of time on each lesson?

Should we enable our students to use their time efficiently in a manner that meets them at their point of need? And should we empower parents to have a say in how their children’s time is being spent? At Stride, we are investing behind these themes. Our core full-time virtual business, both the career and general education aspects is at the forefront of that investment to enable parents and families to really see how the next generation of schooling can break away from the traditional paradigm of the education system. And I’d love to invite the leaders of the traditional establishment to participate with us for the sake of our children, but I also fear the politics and fights for power often get in the way. I think the macro data and the trends in our business continue to support my thesis.

While we began this year down 8% in enrollments, we saw in-year demand continue to outpace the prior year. We were down 4% at the end of the second quarter and were down just over 1% at the end of the third quarter. The strength of our third quarter was even more impressive in that we booked a trend. Last year, we lost about 5,000 students from the beginning and the end of the quarter. which is consistent with what we’ve typically seen. And this year, we’re basically flat from the beginning to the end of the quarter as we continue to see strong demand for our product and services. We’re always asked at this time of the year, how things are shaping up for next year. And we always say it’s far too early to tell. What I can say is that through today, the positive demand trends have continued in terms of application volumes.

As I previously stated, these metrics are the best indicator of demand. So I’m optimistic that we will return to enrollment growth for this fall. And if you followed us, since I took over as CEO just over 2 years ago, you’ll know that I’ve pushed us to continue to innovate. I believe that schools and districts in the U.S. are too complacent. So I believe this is going to be up the company’s like strive to drive innovation that is focused on the customers, the students. For example, I’ve spoken previously about our career platform. Students and parents continue to want more exposure to career skills and opportunities and yet traditional schools still fall short in delivering these options. For example, in a recent survey, the top priority for respondents was for students to develop practical life skills and yet only 26% related to their local schools as satisfactory in providing these skills.

Similarly, only 30% said their local schools have satisfactorily prepared students for careers. In a separate survey of Gen Z students, 44% said that school only taught them very basic computing skills, while 37% said that school education did not prepare them with the technology skills they needed for their planned careers. And at the same time, the number of organizations with a skills gap has increased from 55% in 2021 to almost 70% in 2022. The users of our Tallo Career platform, including the 1.7 million current users, while access to exclusive employment educational options. And employers, workforce organizations and colleges and universities will be able to engage with a unique pool of talent seekers. The platform includes educational content, badges, credentials and certifications in the top current interest areas, including health care, STEM, business and education and training.

As I’ve mentioned before, Tallo is available to anyone over 13 at no cost. Students in high school and college can join to showcase their skills and talent and connect with employment opportunities. They can take courses and prepare for in-demand certifications while developing durable skills to help them in any industry. On top of the opportunity to get connected to companies looking for their chosen skills, users can match with over $20 billion in scholarships. On the other side of that platform, companies and postsecondary organizations can use the platform to recruit specific talent based on interest, credentials, community involvement and test scores. We can also track talent over time to provide predictive information on employee retention.

I also want to talk about another product that I think can revolutionize the way parents, students and teachers collaborate on education. We call this product our Learning Hub. And for too long, the student’s education has separated interactions between parents and teachers. Students feel like they need more help at home and parents want to help, but may not know how. Meanwhile, teachers want parental support to find it challenging to manage so many relationships. Our Learning Hub solves this by being a single platform for personalized content to enhance learning. The platform offers a comprehensive library of curated lessons and resources aligned state standards. It uses best practices to suggest content for each individual student based on their past use and success.

And since students, parents and teachers all have access to the platform, support is seamless and comprehensive. We just launched Learning Hub this last month, but we’ve already received positive feedback from teachers and administrators. The great thing about both these products is that we have a built-in user base that we can reach out to, to learn and use to evolve the product. At the same time, these products have the ability to address significant market opportunities outside of our core full-time offering. They allow Stride to diversify our revenue streams and reach more users, and they do so by leveraging the expertise we’ve developed over the past 20-plus years. Now before I wrap up, I’m excited to announce that we’re planning an Analyst Day sometime later this calendar year, likely in the late fall.

By fall, it will have been 3 years since we provided our fiscal ’25 targets and while we remain committed to those targets, both Donna and I look forward to offering a deeper dive into our financial goals and strategic priorities looking out further and including some of the exciting things we’ve been working on. While we are exceeding expectations for this fiscal year, I’m even more bullish on our ability to help transform our educational system in the years to come. Now I’ll pass the call over to Donna to give some commentary on our third quarter results and discuss our updated guidance. Donna?

Donna Blackman: Thank you, James, and good afternoon, everyone. First, let me quickly recap our quarterly results. Revenue was $470.3 million, an increase of 11.5% from the same period last year. Adjusted operating income was $80.2 million, up $10.8 million or 15.6% from last year’s third quarter. And capital expenditures were $15.2 million, a decrease of $3.2 million. We remain very pleased with how the year is coming together. Our results this quarter for both revenue and adjusted operating income exceeded the high end of our guidance. We continue to see strong retention and new enrollments in the third quarter. We finished the quarter with total average enrollment of 181,800, up nearly 8,000 enrollments from the first quarter.

This reinforces what we’ve said before about the continued demand for virtual options and service our belief that we remain on a path to achieve our fiscal year 2025 revenue and AOI targets. Now for some more detail on our third quarter results. Korea learning revenue was $180.7 million, up 71% from the third quarter fiscal 2022. Continued growth in the adult learning business and strength in our middle and high school programs both contributed to the increase. Middle and high school career learning revenue was $150.8 million, up 81% from the third quarter fiscal year ’22. This was driven by a 60% increase in enrollment and a 13% increase in revenue per enrollment. As we’ve mentioned previously, in the first half of the year, the revenue per enrollment improvement was somewhat timing driven, and we now have a harder comparison in the back half of the year.

That said, we now think we’ll see overall revenue per enrollment growth in the mid-teens for the full year. Adult borrowing revenue in the quarter was $29.9 million, up over 32% from the third quarter of fiscal ’22. We continue to see growth across all of our adult learning brands and remain excited about the future growth prospects. We still expect to finish the year up around 30% from last year. Quarterly revenue from our General Education business was $289.6 million down 8% from the third quarter last fiscal year. Despite the decrease, we are very encouraged by the in-year enrollment growth in this business. Gen Ed enrollments in the third quarter were 114,600 up more than 2,000 enrollments since the first quarter. This strength and in-year enrollment demonstrates the sustained demand for virtual options in the K-12 space.

Revenue per enrollment for Gen Ed increased 16% from the third quarter last year. We believe this business will finish the year with revenue per enrollment growth in the low teens. Gross margin for the third quarter was 37.3%, up 60 basis points from last year. We feel confident we can finish the full year with gross margins that are roughly flat to last year. Selling, general and administrative expenses were $103.1 million, up $8.9 million from last year. The increase is mostly due to continued adult learning growth and investments in our new products, as James previously mentioned. Stock-based compensation was $4.7 million for the quarter. Adjusted operating income for the quarter was $80.2 million, and adjusted EBITDA was $103.9 million.

Interest expense for the quarter came in at $2.2 million. The effective tax rate for the quarter was 26% and diluted earnings per share totaled $1.30. Moving to our balance sheet and cash flow items. Capital expenditures totaled $15.2 million, down $3.2 million from last year. Free cash flow for the quarter was $69.8 million, down $4.8 million from last year. As of many years, we may see some timing impacts in the fourth quarter based on when states pay. So we don’t expect free cash flow to be as strong as it was last year. We finished the quarter with cash and cash equivalents of $373.7 million. Turning to our guidance. For the full year, we are raising our revenue guidance, raising the bottom end of our adjusted operating guidance and updating our CapEx and tax rate guidance.

We now expect revenue in the range of $1.805 billion to $1.825 billion, up from $1.775 billion to $1.815 billion previously. Adjusted operating income between $193 million and $200 million, up from $18 million to $200 million previously. Capital expenditures between $65 million and $70 million and an effective tax rate between 26% and 28%. Thank you for your time today. Now I’ll turn the call back over to the operator for Q&A. Operator?

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Q&A Session

Operator: Your first question today comes from the line of Jeff Silber with BMO Capital Markets.

Ryan Griffin: This is Ryan Griffin on for Jeff. I was just curious if you can give any color on some of the early indicators and how it relates to Gen Ed or Career Learning? And then if those are coming through the same funnel, do you have any updates on segregating those funnels at any point in the future?

James Rhyu: Yes. So right now, they’re still primarily coming from the same funnel. I think we do have some initiatives that we’re planning for this fall season that will hopefully open up some incremental core at specific funnels. But for right now, we’re seeing the demand that’s really from the same funnel. And I think that sort of the comments we’ve already made about the fall, probably not going to give that much more context around them. I think we’ve given a lot, probably more than we normally would give at this time just because it’s so we’re on in the season. Remember, anything that we’re talking about now we’re talking about something like less than 10% of overall total enrollment volumes for the season. So while very encouraging, I think, early on, still very early.

Ryan Griffin: And then just one follow-up on the margins. I think in the past, you’ve spoken about some of the efficiency initiatives and about how you’re also lapping some of the cost inflation you’ve seen this year? Just wondering if you can give any color on what we might expect from the cost to the P&L and what that implies for margins next year?

Donna Blackman: So one of the things we so early talked about this year is looking at some of those efficiency efforts to offset those inflationary pressures. And so looking at automation, looking at our looking at our size and scale as some of those examples of some of those efforts. And so those are always looking at how do we continue to deliver student outcomes in the most efficient way possible. And so we will continue to look for ways to do that. And so while many of those efficiency efforts mitigated the impact of inflation. It’s not like next year, we sort of pulled back to the way we’re doing things. We’re always looking at how we continue to improve. And so with that, we think for this year relative to last year, our margins will be relatively flat.

James Rhyu: I also would point out that just sort of a, I think, a data point that suggests that we’re doing is actually paying dividends is we started the year with gross margins below the prior year. We said that we were going to really sort of tighten our belts and look for efficiencies. We did it. And in the second and third quarter, where we both saw gross margins above the prior year. And I think that — I think Donna has mentioned this before, but most of those are sort of, I’ll say, I’ll call structural in nature, meaning they should have legs into subsequent years. So I don’t think they’re just quick one-off things that we won’t see any benefit into next year.

Operator: Your next question comes from the line of Greg Parish with Morgan Stanley.

Greg Parrish: Congrats on a strong quarter. I want to talk about the makeup of the students joining midyear here. I don’t — I ask the enrollments have grown 8,000 since this first quarter and factor in attrition and even larger numbers. So what’s really driving these students out of brick-and-mortar in the middle of the school year here?