Good day, ladies and gentlemen and welcome to the K12 Third Quarter Earnings Conference Call. My name is Wanda, and I will be your coordinator for today. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host, Mr. Mike Kraft, President of Investor Relations. Please proceed sir.

Thank you, and good morning. Welcome to K12’s third quarter fiscal 2014 earnings conference call. Before we begin, the company would like to remind you that the statements made during this conference call that are not historical facts maybe considered forward-looking statements made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve risks and uncertainties that could cause actual events or results to differ materially early from those expressed or implied. In addition, this conference call contains time-sensitive information that reflects management’s best analysis only as of the day of this live call. K12 does not undertake any obligation to publicly update or revise any forward-looking statements. For further information concerning issues that could materially affect financial performance related to forward-looking statements, please refer to our filings with the SEC. These files can be found on the Investor Relations section of our website at www.k12.com. In addition to disclosing results in accordance with Generally Accepted Accounting Principles in the U.S., or GAAP, we will discuss certain information that is considered non-GAAP financial information. A reconciliation of this non-GAAP financial information to the most closely comparable GAAP information was included in our earnings release and is also posted on our website. This call is open to the public and is being webcast. The call will be available for replay on our website for 60 days. With me on today’s call is Nate Davis, Chief Executive Officer and Chairman; Tim Murray, President and Chief Operating Officer; and James Rhyu, Chief Financial Officer. Following our prepared remarks, we will answer any questions you may have. I’d like to turn the call over to Nate. Nate?

Good morning, everyone and thanks for joining us on the call today. As you saw in our release this morning, we delivered solid results for the third quarter. Revenue was $235.2 million increasing 7.9% year-over-year and our operating income was $27.4 million increasing 41.2% year-over-year. Both revenue and operating income are well within the line, in line with the guidance that we provided last quarter. This performance is a result of our strategy that were better balanced between growth and profitability. To get this balance we need to be still more disciplined in the assignment of resources, but I want to be clear that we will continue to invest in the content, systems and tool as our students and teachers need. We won’t slow down our investment in a better curriculum and better systems. Going forward, we believe our growth will come from increasing enrollment in our current schools, developing new counties as we announced last quarter with the two new public charter schools in Florida and by opening new schools within our current state footprint. While I also believe we will see growth in new states, it will not be at the pace you have seen in previous years. Speaking of new schools in existing states, this quarter I am pleased to announce that a new K12 Managed Public School will be opening in Michigan. This will be a K12 inside school and will focus on at-risk students from across the state. The school will have a first year capacity of 2,500 students and will increase to the capacity of 10,000 students by year three. We are very excited about the opportunity to bring more choice to families in Michigan as soon as we schedule to open the school in the fall of 2014. In addition, the Iowa Virtual…

Thanks, Nate and good morning everyone. Overall, I am very pleased with our progress this quarter and I will focus my remarks on two topics. First, the investments we continue to make at our students and teachers. And second, our continued progress in improving our enrollment and marketing effectiveness. This quarter, we continued to evolve our data driven instructional model in our schools using formative assessment data to target instruction and remediation for students. Teachers continued working in professional learning communities, or PLCs as we call them to study school data, formulate action plans and share best practices for student engagement and learning. In late February, 40 of these school leaders joined corporate and regional staff at K12 headquarters to begin planning for the new school year starting in the fall. During the quarter, we also began to implement state specific testing across our managed public schools which are continuing into this quarter, the fourth quarter. At least two of the schools we manage we are helping field test in these Smarter Balanced Assessment Consortium or SBAC excuse me or SBAC for sure the common core aligned assessments. New course options were also introduced this quarter as we brought to market new content and capabilities for all grade levels. As part of this effort, we more than doubled our mobile portfolio with new capabilities, including EmbarK mobile companion application for pre-K and kindergarten students and some two dozen new applications on tablets for advanced placement exam preparation. These are just a small example of our overall effort to transform our offering to be more mobile ready. Mobile is increasingly an important part of how students want to engage. We will continue to transition our content to be device agnostic as we balance our pace with the declining unit cost of…

Thanks Tim and good morning everybody. As Nate already mentioned revenue and operating income for the quarter were inline with our guidance. I will go through the details with you in a minute, but we were generally pleased with the results this quarter. In addition, we generated $46.6 million in free cash flow and held our cost structure in line with our expectations. At the same time we continued to invest in academic outcomes and we will continue to make these investments going forward as Nate mentioned. Now, let me take you through some details of the quarter. Revenue for quarter was $235.2 million, an increase of 7.9% over the year ago quarter. This growth was largely driven by an increase of 9% in our managed public schools. Revenue and is consistent with the trends we saw last quarter. Enrollments rose 5.3% year-over-year while average rate per enrollment rose 3.6%. Institutional sales revenue decreased $2.2 million or 13.9% from the prior year. The sequential decline is consistent with the seasonal trend we saw last fiscal year. Our international and private pay schools revenue increased $2.2 million or 20%. Total semester course enrollments rose by 10% and student enrollments rose by 12% associated with strong spring enrollments. Gross margins declined 41 – from 41.4% last year to 40.2% this year. However, on a sequential basis gross margins were relatively flat to Q2. We would expect to see gross margins at around this level on a full year fiscal basis. Selling, administrative and other expenses declined slightly to $64.4 million on a year-over-year basis, sequentially expenses rose 2.7%. If you exclude the $32.2 million of charges incurred in the second quarter, $13 million of which hit this line item. This increase was due to some seasonality and expenses as we plan for…

Okay, thanks James. Thank you, Tim. Operator, I think we can move into questions now.

Thank you. (Operator Instructions) Your first question comes from the line of Corey Greendale with First Analysis. Please proceed.

Hello, good morning. This is David Warner for Corey. I just wanted to ask you about selling and administrative expense, would you expect with a lot of the enrollment process changes that you have implemented that you would expect more of that expense to maybe shift seasonally into Q4 versus Q1? And then what are your expectations for selling and administrative expense in 2015?

Yes, hey David. We certainly expect some seasonal tick up in Q4. We are not really talking about 2015 yet, so not really going to give an indication of where we are going to be for 2015 at this time. We are going to invest early and which we have started to do already as I mentioned, but no indication of 2015 at this time.

And then just shifting gears, what are your expectations for revenue per student or just maybe the funding level in general for 2015 in the managed school business and public school business?

I think, we are – again, James had not given any guidance for next year, but I will just tell you trending wise we don’t see the trend changing from what happened this past year. We expect the revenue per student to be relatively small increases, but everything is on a by state basis for K12. So, in one state, we may see an increase of $200, $300 a student and in other cases we may see it go down a little bit. Overall, when you average across all states, I think it will be a small increase in revenue per student.

And I think it depends on the mix of enrollments we achieved at the end of the season.

Got it, okay. And then just one real quick one on the institutional business revenue, it was down on easier comp, I guess, year-over-year, is that – was there any lumpiness as far as license sales or anything there or you saw maybe fewer big transactions anything like that or is that a reflection of the underlying with that business right now?

Yes. I think right now, again, we have mentioned that, that business is a little bit of transition, I think you saw last year a very similar sequential decline in absolute dollar amount, I think actually the numbers were very close in sequential declines. We continue to assess this business to make sure that we are going to market in an appropriate way. We are very committed to this business and we continue to invest in it. But I would like to say this is a business in transition for this year.

Alright, thank you.

Thank you.

Your next question comes from the line of Jeff Meuler with Baird. Please proceed.

Yes, thank you. In terms of the initial response rates to the TV ads, I think you have called them out as favorable, but I don’t know exactly what you mean by that. Are you talking number of inquiries, quality of inquiries what exactly are you guys seeing?

Jeff, it’s Tim. The – what we can initially measure at this early stage of the test is the response, the lead response from the advertisements themselves and that’s what specifically I was referring to when I saw some improvements over our prior ads from last year.

Okay. And then what are you guys…

Yes, just to be clear those ads that Tim referred to they were tested in select small – in select markets, so it was a national test, it was a small program. So that was just an early indication, I think you mentioned that (indiscernible).

Okay, thank you. And then what are you guys budgeting for marketing spend this enrollment season versus last enrollment season?

Again, we are not giving any indications for 2015. I think we are certainly investing earlier and we haven’t finalized the process of what this full enrollment season investment is going to be.

Across the full enrollment season, the total dollars won’t be direct – won’t be significantly different, it will just be more of it in earlier in the year as Jim mentioned. So, we will see more in the fourth quarter than we would normally have seen in the first quarter. But as we go through the year, we also may continue to adjust as we see the market react to our promotions.

Okay. And then can you just help us with the product development expense line item, I know that it was down last quarter and you said to expect it to be down again on a year-over-year basis this quarter, but just trying to sync up your comments about investing within academics and what’s driving such a sizable year-over-year decline in the product development expense line item?

Hey, Jeff, it’s Tim again. The mix of the nature of the projects we are completing and whether that project is capitalized or expense is probably the biggest contributor here. If we look at our investment on a cash basis, you would see that it’s been fairly consistent period to period.

Okay, thank you.

Your next question comes from the line of Jeff Silber with BMO Capital Markets. Please proceed.

Thank you very much. I was wondering if we can get a little bit more color in terms of your decision not to spin off the businesses to Safanad. If you can just talk you mentioned some of the complexities, but if we can get a little bit more detail, that will be great?

Hi, Jeff, it’s Nate. Well, first, it wasn’t so much spinning them off to Safanad. Remember, it was going to be a joint venture. We would have some percent ownership and they would have ownership and we were going to be partners in it. The nature of the complexity centered around all the rules it tries to setup when you setup a partnership. Who does what, and who is going to do what in what particular markets and all of the lots of rules got into negotiation, it just became a more complicated arrangement than we wanted to be, which is why we – I said we will look at perhaps selling some of the assets and we will talk with Safanad, we will talk with others. But I think a cleaner sale I mean a sale is in a cleaner position than our joint venture was. Rather than I’ll go into all the details of a negotiation but I can tell you center-ground all the operating (indiscernible) that had we set up, the licensing (indiscernible) that had we set up, they just ran into too many complications.

And remember part of the objective of the transaction was in fact to reduce some of the complexity and distraction within our business. And as got into it I think everything that Nate mentioned we realized that it was going to potentially increase it and so I think strategically for us we want to make sure that we held true to the strategic objective of the contemplated transaction.

Okay, great. In your remarks you talked about the new Insight School and you mentioned the focus on at-risk students. Can you remind us – is that the way that Insight School is being marketed more towards at-risk students?

Most Insight Schools are but not all. We have some Insight Schools that are really what I would call normal schools they have – they are marketed toward high achievers and marketed toward an average student. We have – but most of our Insight School, yes, we try to target for at-risk schools, that’s the general nature of the program. It has the different instructional model. It has more teaching time and more involvement. So we try to gear that program toward those students that are a little further behind.

Alright. And if can just sneak in one follow-up question. I know in the past you’ve talked about in (indiscernible) talked about some of the focus on special education students. If you can remind us what percentage of your students you’d classify in that category, I don’t know if you have information of maybe the number of students that have IEPs and is this going to be a continued focus for the company?

Under the definition that the educational industry and Federal Government uses we’re a little over 10% I think we’re like a 11%, 12% by in that kind of range for special education students. And I’m sorry Jeff what was the second part of your question.

Yes, I’ll just (indiscernible). Is this going to be a continued focus for the company?

Absolutely. We – as we’ve talked many times about as a public school we take on all kids who apply who make it through the process and if parents decide this really is a good program for them and to the extent that special education students make into that process we want to serve them. We think they are an important market and so we will continue. I don’t think the numbers going to decline in percent, I think you may see it actually go up a little bit or stay flat, but yes it will remain a key focus for us.

On a revenue per student basis is it safe to assume that the revenue per student is higher for those students than it is for the general population?

It’s a different funding model, is a better way to say and to say it’s higher. It’s a different fundamental also a different expense model because remember these special education teachers you have different student teaching ratio, you have to have special tools, you have to provide. So it’s a different fundamental because some of that comes from the Federal Government as opposed to all of that coming from a state. So I wouldn’t call it higher, I’d just say different sources of funding.

Alright, great. Thanks so much. It’s very helpful.

Your next question comes from the line of Jerry Herman with Stifel. Please proceed.

Hi, good morning everybody. As I just want if you spend a minute on the NCAA situation and what sort of impact that might have on volume?

Hey Jerry, it’s Tim. We’re working very, very hard with the NCAA to work with them to shape the policies for them to be able to ensure that their mission of ensuring eligibility for the schools that they regulate can be implemented in an online model. It was unfortunate that they took the action they recently did. In terms of the impact on us to be honest with you it’s not great in terms of absolute numbers of students, but from a marketing perspective we would prefer not to be singled out as a company who can support those kinds of students even though it’s a small number of students for us. So it’s not as much about a financial impact, it’s more about us being able to serve the students that really do need our model including our students who want the Division 1 or Division 2 athletic programs.

Okay, great. And maybe can you guys talk I know it’s still maybe a little bit early. But can you talk about sort of the business development pipeline generally you mentioned Michigan. I do have a question about Iowa in terms of how sizable that might be but likewise can you also address other states where you see opportunity in this season and likewise maybe spend a minute on Pennsylvania as you move into the potential renewal on that contract?

So remember first of all we talked last call about Hillsborough and Pinellas counties. Both counties are big counties in Florida; those are probably the largest new school fit that we’re going to see in terms of immediate impact. I’ve mentioned Michigan this morning. The Idaho for College and Career Readiness Academy also opened this year. We have a small county in Florida, (Plate) County that also opens in Florida this year. I mentioned the Iowa Virtual Academy. So there are a number of schools coming on this year. I think you will continue to see us do more of that. There is possibilities for new states. We continue to work with regulators and policymakers in the states you’ve heard us talk about for a long time but there are no promises in those states, I’m talking about obviously states like North Carolina or New Jersey or something in Illinois. But there are no imminent openings coming in those states, those are just states that where we know there are potential discussions going on. So the pipeline I think if you look across the state we’re going to see more states where we’ll see opening these career technical education and I think that’s the – that’s probably one of the most exciting things that we’re doing and we’ve got some people there they are dedicated to having those conversations than other states. I don’t want to preannounce the state because obviously as we work with a particular state or work with a particular organization, applications before applications go in a lot of discussions have to happen and I don’t want to damage a negotiation by announcing a negotiation like organization do sometime. But I could tell you that we have at least three states that I know of that we’re having a lot of conversation about career technical education opportunities today. So I think you’ll see that. I think you’ll see more Insight Schools and I think you’ll see us continue to push for opening up new states. But as I mentioned in my comments I don’t think the new states are going to be large in volume of them, but they’re important so we’ll continue to push for it.

How about PA in it?

I am sorry, what was your question about PA?

Just any color on either the discussions you’re hearing in that state I mean typically this time of the year you get some rhetoric out of the legislature and likewise how you’re positioning for that renewal?

Yes, Jerry, good question. First of all remember that there has been a – there is a legislation that was proposed earlier in the year in Pennsylvania that everybody was sort of concerned that was going to cause a big problem and reduce the funding. I think you’ll see something perhaps go through but it really is an adjustment to funding and how some pension things are handled. But we don’t see a major adjustment in a way Pennsylvania is going. Again these kinds of things are – things you don’t want to get on a national call and try to get one really (out of it) because obviously this is a call with lots of people like regulators listening and so they decide – they’re going to make a decision. But I think there is less impact and everybody goes worried about it in the very beginning as we talk it through with legislators and others, parents not get involved. So I don’t see a major funding change in Pennsylvania although we may see some small funding changes. I think we’ll always see some of that. In terms of our own school as everybody knows in the next year, year and a half we will have actually will file this year, this next year in 2015. And then you’ll see an approval for our Agora school that approval is something we work on, we negotiate on the new service contract and then they will get a charter renewal process going in the state of Pennsylvania as well. We watch what others are doing as they go through the process and make sure that our service contracts will be compliant with everybody that a state want. I think we are a good partner for Agora and I think they’re happy with what we’ve done. But we’ll always have to tweak in and adjust the contracts as we go forward as the state regulators ask for different things. We’ve seen that in every other state, I have no reason why I would see some small changes in Pennsylvania as well.

Great. And you guys were helpful in the past talking about the contribution of revenue and I guess operating losses in this case. The businesses that were going to be a part of the JV. Can you just reframe those metrics if you will on a revenue NOI basis?

I think we gave some indication previously that they – the revenue in fiscal year 2013 of those combined businesses were a little more than $20 million of revenue and they contribute a few million dollars of operating losses. Those businesses actually had – trying it slightly better than that in this fiscal year we don’t break those results out in our financials but they’ve grown our top-line and they in aggregate shrunk their losses. So you can kind of think of it as a slight improvement to the fiscal 2013 numbers.

Great guys. Thanks very much. I’ll turn it over.

Thanks, Jerry.

Your next question comes from the line of Sara Gubins with Bank of America, Merrill Lynch. Please proceed.

Hi, thank you. Good morning. This is actually (indiscernible) calling in for Sara Gubins. I just have one question right now for Tim Murray. Sir, on your recent Academic Day you talked about the improvements to the onboarding process to make it easier for passed and signup. Are you seeing any early improvements in demand as a result? Thanks.

Hey (indiscernible). Thank you. It’s a great question. We’re seeing operational improvements in terms of the time with which a family can progress through a process. I can’t correlate that to how that impacts demand which is what I think your question was. All of those improvements were met to make it easier for a family i.e. less friction to go through the enrollment process and the metrics we’re observing would suggest that we have reduced the amount of friction, but it’s still early and we’re not being tested at high volume at this point in time, but we’re encouraged by the results.

And when you say reduce the amount of friction Tim we’ve seen the amount of time that take your parent to get through the application process, I mean just the early part of the process is shorter. Now they still have that – sorry – they still have to have composites with our enrollment center for personnel, they still have to go to all the documents with the state. But just logging on to our system and getting the application in is taking less time than it ever took before.

I see, okay. Thank you. So, just one more question. So can you comment on the legislative and competitive environment in managed public schools and specifically in what states are you seeing a more difficult legislative environment? Thanks.

Well legislative is a large word and so let me talk about what we’re seeing. I think all of our boards of education in all of the states, we want to make sure that the boards themselves were independent, the boards make the decisions about the direction of the school and that we are the provider of the curriculum but we’re not in the (indiscernible) school but we don’t make the decisions about the direction. I think there is more focus on that from all the regulators and the policymakers. They want to know that the boards own the academic results and so while we are there to support as a matter of fact I was just with one of my boards yesterday morning and in that breakfast meeting I had within – they went through their process that they’ve gone through with the authorizer and what the authorizers asked them to do. And clearly they’re being held more accountable for student results. So as we talk about being held more accountable for student results, I think all of our boards are seeing the same thing and that’s what policymakers are all looking for. And I think some of the resistance you’ve seen to new states opening up has been just all wanting to make sure that students are getting the best education they can. We want it, the regulators want it, the policymakers want it and the boards do. And I think that’s probably the biggest thing, it’s no longer about rates, three years ago or two years ago, it was all about cutting rates, cutting rates, cutting rates. And because the states were faced with terrible budget situations in a tough economy. None of us have gotten through that process and now it’s in our virtual schools have been around long enough and let’s make sure we’re focused on the academic results. That’s really the kind of the environment. I hope I answered your question.

You did, yes. Thank you. And just one more thing on the competitive environment, I know that there is a generally more except the trend, more technology in the classroom. So are you seeing higher competition or any color you can provide would be helpful? Thanks.

The competition we see is not competition for a school board to decide they’re going to go to another provider. So we’re not seeing as much of a competitive issue there as we’re with new schools were opening obviously boards are deciding which provider they’re going to use and most importantly we’re seeing our boards pressure us and by the way we have the same desire as we talked about before to look at alternative ways of providing the curriculum not just building at ourselves but can you buy, can you buy a math course, can you buy a reading remediation tool, can you buy a testing tool or an assessment tool. We’re seeing greater availability of different kinds of tools on piecemeal. We of course have to be a provider from Kindergarten all the way up to 12th grade for the entire curriculum for all of the subjects. So we don’t see anybody up providing a full curriculum but we do see our piecemeal solutions. And so we have to decide ourselves that we want to take individual positives with the piecemeal solutions. For example should we be focused on math and reading and use somebody else’s science course. And that’s what we’re – I wouldn’t call that competition in our cases I’d actually Tim and I would for me would work for competition that means sometimes they are competitors and we are looking to the (indiscernible) business and other times they are providers to us, because we can take those new tools and put them in our review.

Okay, alright. Thanks for the color.

Your next question comes from the line of Suzanne Stein with Morgan Stanley. Please proceed.

Hi. You are going to have the capacity that you are adding in Michigan, can you just give us a sense of the capacity that you are adding in the Q4 to schools?

The Florida schools don’t have a cap as you would think of it. So, they are within the two counties they are there since we uncap. We can talk about how many eighth graders or seventh graders live in a particular district, so that’s really – it’s really capped by how many people in the district and those are pretty large counties. I think we mentioned before that there is 200,000 school age students in the Hillsborough County. And I think it’s another 100,000 in the Pinellas County. So, those are very large school districts, but there is not a cap on it, it’s a matter of how many students decide to go with online education.

Okay. And then just given that you are not pursuing the joint venture, can you just talk about how those assets are being won in the meantime as you are sort of figuring out to deal with me?

Sure, Suzie. There is really no change in how those assets are run. Each one has somebody who is leading the business, and for example, our guys, who leads the cap they had business is continuing to go out and pursue business. It reports him through an executive who reports them to me. So, (indiscernible) school or cap ed school or cap ed business or any of the other businesses we were talking about, all basically report up to me. So, they are not in the managed schools area, they are not in the finance area, they are all separate businesses they reported to me.

Okay. And then just in terms of the institutional sales business, I think you are not giving firm guidance for next year, but what are you expecting just in terms of this business kind of turning in terms of performance?

Well, Suzie, as you know we are not giving any guidance about next year, but what we will continue to do is invest in the platform. This is a business that’s transitioning from what was largely a content business, go out and sell catalog, where now we believe it’s important to sell the platform that makes it easy for the user to consume that catalog. So, we will continue to invest in the platform. We will continue to invest in our own content. We will continue to invest in the ability to integrate with third-parties to be able to bring their content to our customers. And we will continue to address the workflow and complexity issues of our customers. All while that’s happening, we continue to see the revenue quality improvement. Our percent of revenue was a proportion based on perpetual licenses has continued to decline as we previously said it would. We are now at a point, where the majority of our revenue is now based on either identified license sales or prudent user sales. So, a more predictable certain type of revenue structure. And importantly, that’s geared toward the way these customers want to buy. Districts want to be able to buy with certainty and predictability around what their costs are going to be. And so we have conformed to that. So, we will continue on the path we are, as James said. We see this as an enormous market opportunity and we will patiently continue to go after this marketplace.

Okay, great. Thank you.

Thanks, Suzie.

And with no further questions, I would now like to turn the conference back over to management for closing remarks.

Well, I don’t really have any long management remarks for the rest of team. I know that to the extent that you have follow-up questions, Mike Kraft, myself, James Rhyu, and Tim Murray we are all available to chat. I want to thank everybody for the time this morning. And operator, I think that concludes our call.

Thank you for joining today’s conference. That concludes the presentation. You may now disconnect and have a great day.