Greetings and welcome to the K12 Fourth Quarter Fiscal 2018 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mike Kraft.

Thank you and good afternoon. Welcome to K12’s fourth quarter and year end earnings call for fiscal year 2018. Before we begin, I would like to remind you that, in addition to historical information certain comments made during this conference call maybe considered forward-looking statements. These statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. They should be considered in conjunction with cautionary statements contained in our earnings release and the company’s periodic filings with the SEC. Forward-looking statements involve risks and uncertainties that may cause actual performance or results to differ materially from those expressed or implied by such statements. 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 risks and uncertainties that could materially affect financial and operational performance and results, please refer to our reports filed with the SEC. These reports include without limitation, cautionary statements made in K12’s 2018 annual report on Form 10-K. These filings can be found on the Investor Relations section of our website at www.k12.com. In addition to disclosing financial 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 for 30 days. With me on today’s call is Nate Davis, Chief Executive Officer and Chairman of the Board; and James Rhyu, Chief Financial Officer. Following our prepared remarks, we will answer any questions you may have. I’d like to now turn the call over to Nate. Nate?

Thank you, Mike. Good afternoon, everyone. Thanks for joining us on the call today. I am pleased to report that K12 ended fiscal year 2018 with solid financial results both for the quarter and for the year. Revenue for the year was $917.7 million, up 3.3% year-over-year. We recorded revenue growth in Managed Public School Programs that more than offset the shortfall on our Institutional Business. This demonstrates the strength of our core managed public schools and the underlying demand for blended and online options. Adjusted operating income for the year, excluding charges recorded in both fiscal year ‘17 and ‘18 on which James will provide more detail was $49.2 million, an increase of 6% year-over-year. This was a result of our focus on the balance between making expenditures to drive excellent academic outcomes and focusing on growing profitability. Our capital expenditures were $43.1 million for the year, the majority of the investment went toward upgrading our curriculum and systems architecture to improve the student, the family and the teacher experience. Improvement centered on enhancing the mobility, acceptability and the adaptability of the learning experience. For instance, we upgraded more than 100 of our most popular courses to have a moderate, mobile-first design with translation into 55 languages. We also added a new help-me feature into our math and ELA courses. This feature provides learning support on every instructional screen, powered by our machine learning adaptive algorithm, what we call the recommender. Recommendations are updated every night based on data gathered from student activities and assessment the day before. While I could list a number of other examples like our machine adaptive learning algorithm, the key takeaway that we are actively investing in artificial intelligence in multiple areas within our platform and curriculum. Even with these investments, I want to…

Thanks, Nate and good afternoon, everybody. First, I would like to recap our results for the quarter and the year. Revenue for the quarter was $238.9 million, an increase of 10.7% from the prior year. For the year, revenue was $917.7 million, an increase of 3.3%. Operating income was $9.9 million, an increase of $5.2 million or 110% for the quarter and $25.5 million for the year, an increase of $12.4 million or 95%. Adjusted operating income was $15.8 million for the quarter, an increase of $3 million or 23% and $46.4 million for the year, an increase of $10.7 million or 30%. As a reminder, adjusted operating income excludes stock-based compensation. As Nate mentioned, capital expenditures were $43.1 million, a decline of $5.1 million from the prior fiscal year. As you may already be aware, our operating results for the year include $4.3 million of charges that were booked in the third quarter related to costs associated with our CEO transition. Excluding that charge, operating income would have been $29.8 million for the year and adjusted operating would have been $49.2 million. For comparison purposes, if we look at the pro forma fiscal ‘17 results, excluding the $11.4 million of charges and $3.8 million in additional performance based stock compensation, our fiscal 2017 operating income would have been $28.4 million for the year and adjusted operating income would have been $46.4 million. So pro forma operating income would have grown $1.4 million and adjusted operating income would have increased $2.8 million or 6%. As Nate has already mentioned, our revenue growth, profitability and capital expenditures for the year met or exceeded our guidance. In fact this is the fifth year in a row where we had met or exceeded our annual guidance numbers. Now, let me turn to some…

Operator, that concludes our prepared remarks. We are now ready for questions. Are there any questions?

[Operator Instructions] Our first question comes from the line of Jeff Silber from BMO Capital Markets. Please proceed with your question.

Thank you so much and congratulations on another good year. And I know you are not giving specific guidance for the current fiscal year, but Nate, in your remarks and I am paraphrasing you, I think you said you expect stronger growth in fiscal ‘19 than you do in fiscal ‘18, what metrics are you talking about, enrollment revenue, adjusted EBITDA, free cash flow if you can give us some specifics that would be helpful?

Primarily, thanks, Jeff and thanks for the congratulating comment. I am primarily talking about enrollment and revenue. Those are the key indicators. We aren’t predicting yet on the other ones, but I would say we see some optimism and of course, Jeff you always got to be careful, because people take my comments out of context and he said oh, here is what Nate said I want to be very careful and say all the current indicators that we see internally about what the enrollment growth is going to be. How we are looking at it going through the season, they are all showing me better results than we have had in several years. So I am talking about enrollment and the associated revenue. I always put all the caveats on it. We are not giving guidance but that’s...

Got it. That’s helpful. And you mentioned the 2 new schools that are opening up, I guess, for the current fiscal year in Oregon and Texas, are those caps?

They are not caps, but what they are is in Texas, especially we are starting off with the grades up to high school, but not including high school. So, it’s not really a cap in that sense, it’s more of a limited number of grades and then we will open up a high school at a later date. It could be the year after. It could be year after that. But we are getting to know our partner, partner’s calls real effective and they want to start on a reasonable pace as do we. So no, it’s not a cap, but it’s got investment.

Alright, great. And were there any caps lifted for the current fiscal year that you had caps on in prior years?

No, no, there are no significant cap increases this year.

Okay, great. And can you just review are there any schools that are closing that were opened in fiscal ‘18?

That were opened – in fiscal year ‘19, there are no new closures we don’t know about, but we have had schools closed, more of a shift than closure, but we had inside Pennsylvania that was already announced that it was a closure. We also had one of the schools in Indiana closed, but other than the ones that are already out in the market, no, there are no new disclosures.

Okay, great. I will ask one more and then I will jump back into queue.

Jeff, before you go on, I did forget to mention ours, we didn’t have a closure, but we did have a school in Chicago virtual that decided to go from managed to manage on their own. And so that school in Chicago has also changed. It’s a small school, but I want it to be full disclosure that one also changed.

Alright. I appreciate you are letting us know. And just final one question, the company has obviously been building up cash and you announced the strategic investment this afternoon. From a cash use perspective, what should we expect over the few years?

Similar approach to what happened this year. I continue to believe that there are partnerships that we can do. There are opportunities for us to invest in companies either minority investments or acquire them. I don’t want to do $1 million investments, but I also don’t want to take some full time $233 million and buy one company and that be our full shot. So we will continue to look at opportunities, but the opportunities will be strategic, not opportunistic. What I mean by that is rather than just finding something that somebody else wants to sell, it will be, does it help us achieve our strategic goals, whether that’s in CTE, that’s in growing institutional, that’s in growing international or making our core business better, it has to be something that helps us there. Now, CapEx wise, you should expect to see CapEx in the same general range that we have had it this year, plus or minus a couple of million, you are right around the $45 million range. I don’t see any major increases in CapEx, nor major decrease. So, those have been the primary uses of cash.

Okay, great. Thank you so much.

Thanks, Jeff. Operator, next question.

Our next question comes from the line of Alex Paris from Barrington Research. Please proceed with your question.

Yes, good afternoon. This is Chris Howe sitting in for Alex. It seems to be you guys are in a great position for the next year, congrats on the quarter.

Thank you, Chris.

In regards to your retention gains this year, you saw the positive 300 bps in improvement and how would you assess this metric as you head into next year as you talk about the growth that could accrue? How much runway is there left to further improve retention and perhaps can you share some additional color on some of the successes that you are seeing behind the scenes as much as possible that’s leading to your success here?

Yes, there are number of things and James, you will jump in I am sure in a minute, but there are a number of things that we see as being successful. One of them is we found that the more students that are on this career and technical path meaning they take a course in career technical education that gives them some better understanding of what their future is and they tend to stay with the program a little bit longer. So, retention is better when the student takes a career course. We also find that the more we can give them encouragement through the process, encouragement meaning they understand where they are with their grades. They understand where they are with their educational program the more they retain. We also found that touching the students earlier and more often meaning we have this thing called family academic support teams that reach out to students. As they reach out to students in not every school, but in most many schools, we found that when we touch those students more often, they tend to retain better as well. The stability of our systems, we did have a year in FY ‘17 where we have some instability, but we put a lot of effort into the testing before school rollout this past year and that stability really did help us keep students, because there was less frustration on their part. So, those are some of the things that made a difference. As far as our run-rates, I still think there are programs that James and I just went through a review as a matter of fact 2 days ago, looking at our retention programs and when I look at some of their ideas that are on the table, I still think there is room for growth. I don’t think you are going to see a dramatic change in our trajectory. It’s not going to be 500 basis point improvement next year, but we will see the same kind of progress. It may not be 300 basis points, it may be 200, it may be 300, but we continue to think there is room in the process to continue to do better. We actually have a person whose job is simply to go out and sit down in family’s homes and look at how they interact with our system. Just sit there and watch them for a couple of hours and see what we can do to make the process better for our families. That’s one of the things we haven’t done before. In terms of we have done it, from the perspective of our perspective, but just sit in the home and watch them and just purposely come out with ideas that might make their lives better. We think those things are all going to make retention better. James, did I miss anything?

Yes. I think the last point really prospectively at least is maybe the most important in that the whole sort of customer experience, which spans, as Nate mentioned to understanding how the family interacts, but it extends to how we ship the materials, how they get off the ground at the start of schools. The mobile app that Nate mentioned in his script, that’s a good customer experience. We have seen customer call volumes drop, because of some of the experiences that they have had in the app. We are going to continue to extend the app experience into the next year. So, I think there is still a lot of runway, as Nate mentioned and I think a lot of it really will be in that customer experience area that I think we are really just in the early stages of unpacking the level of improvements in customer experience that we can drive.

That’s very helpful. And I had a few more. This next one is just in regard to C2, you mentioned STEM Premier that strategic investment and also the investment in Modern Teacher. I guess how should we assess the environment surrounding investments in general, what you are seeing out there as far as pricing? And I guess how many potential partners could there be similar to C2 or strategic partners such as STEM and Modern Teacher?

Well, each one is a little bit different. I would say that C2 is a customer as much as the partner. That one we didn’t invest in, we simply partnered with them bringing them content. STEM Premier is more of an investment we are investing in that company as we did with Modern Teacher. I think the prices for many of the companies that we could buy out right are higher than we like them to be. The valuations are a little higher than we like them to be. And so we are not only excited about just buying a company. If we did, it would have to be a company we thought would change the trajectory of what we do. So I think the prices are a little high right now. And so we think it’s better strategy to partner with people to be joint marketing arrangement, to invest in people where we can influence what they are doing and they can work with us stronger, I think that’s the smartest strategy. That does not preclude us from buying somebody, but it would have to be somebody we thought was going to change our trajectory.

I just reiterate something Nate said earlier, which is when Nate came back into the CEO role he very specifically challenged us to ensure that we are investing along our four core strategies. And so I think it’s really important that we are very practically looking at ways to drive this company forward along those four core strategies. And as Nate mentioned, the prices are around a few of those strategies, the prices are fairly high. The digital transformation, the institutional business, the market prices are actually pretty high. So, we were very careful about how we are investing in. I think Nate’s approach on structuring these investments with a growth investment first and we are going to try to help these companies grow. And I think that for us is a better use of our capital also gives those companies a level of independence to thrive on their own as well. And so I think we are going to continue to try to drive things within those four pillars and not wander too much stray from those.

I would add to what James just said that maybe I will say it as an example. And I hope you don’t take anything I say to be an absolute, but more directional. I don’t think we need to go out and buy more content, but if you are a company who had content, who also had significantly more distribution network, customers, sales force, then those are things that are of interest to me. But I am just – I am not in a business in trying to buy more content, because we are already building I think great content for our managed public schools. We are making it more modular, so that pieces of it can be licensed to public school districts. So as we do that, I don’t think more content is our answer. I think it’s really more expansion of our capability, reach into more customers. Those are the kind of things you would see us do.

Thank you. And then one last one for me, in regards to Brian Mills and Nicole Franks, can you just provide some oversights on how the search process came about in finding these two candidates? What makes them standout beyond what was announced and how much of a contributor will they be to 2019? And in other words, are their boots fully entrenched in the ground or how are things progressing with their development in their roles?

Our leader, we hired a new leader over the institutional business, the FuelEd business, a guy named Sean Ryan. Sean has significant contacts in the industry. More contacts than I do to be honest with you. And so part of this was reaching out to some of his contacts, these are not things done with a search company, there were things done by people he knew and relationships he had. One was a recommendation from somebody inside the company. The other was somebody that he knew. And they have specific skills relative to these areas, so one person is in charge of developing our marketing programs in the FuelEd area, that’s Nicole. And Nicole comes – her relationship actually comes from people we knew in one of our previous companies. So, I think she will bring great expertise in that area. So I think they are both going to be well entrenched, because they bring specific talent in their area. Brian on the other hand – he has been in business development, he has been in sales. So what I think he brings to the table is a lot of external relationship and how we try to go out and set up new schools and that’s going to be his area of focus is sort of business development for institution. So, I like both of these folks, I like their expertise, I like the fact that we knew them ahead of time, they were not just somebody who came straight out of a search. Hope that helps.

That helps. Thanks for taking my questions. Great quarter.

[Operator Instructions] Our next question comes from the line of Corey Greendale from First Analysis. Please proceed with your question.

Hey, thanks. This is Ken Wang on for Corey. First of all, congratulations on the strong quarter and a great close to the year.

Thanks, Ken.

So just wondering you talked about the institutional business, it sounds like it’s going to continue to trend down a little bit more in fiscal year ‘19. Anything you can offer just in terms of maybe qualitative commentary on when you expect it to kind of return to growth mode?

Yes, that’s – first of all, let me say something, Ken to the whole audience, because I need to correct something I said earlier. I want to make sure the record is right. I said inside of PA and I meant inside of Ohio when I talked about one of the schools that closed. It was inside of Ohio, which I think the market already knew about, but I don’t think that was new information, but I wanted to make sure I clarified that it was inside of Ohio I was speaking of. Now on the institutional business, I think the kind of revenue in FY ‘19 will be less than ‘18. I hesitate to predict clearly our intention is to get back to growth in FY ‘20. I think that will be the date that we will see growth in that business again. I am pretty excited about the changes that we are doing. There have been sales force changes. We just talked a minute ago about Brian and Nicole and the management changes. I talked about the change to our NPS content to make it more modular, so we can sell it and license it more public school district. We have got a new partner in Modern Teacher who I think will give us more leads into more school districts. I can’t predict for sure, but I would tell you that I believe FY ‘20 will be when we return to growth in that segment and we will definitely do better in FY ‘18 – I am sorry ‘19 than we did in ‘18. I don’t know if that helps you.

Yes, that’s helpful. Thank you. And then I may have missed this earlier, but just was there anything you had mentioned before just on the revenue per enrollment that the really strong growth in non-managed programs during the quarter?

Sorry, I think I mentioned the full year revenue per enrollment, but the non-managed revenue per enrollment for the quarter ended up being for non-managed programs ended up being up about 15%, but for the full year it was up 5%. You sort of get some mix and timing and seasonality into that number. So, I think the full year is really a little bit more representative and that’s really just a little bit of mix shift within the client base, but it was up about 5% for the year.

Okay, got it. And then just one more for me, anything you can offer just on kind of any ECOT driven benefit during the quarter. And then separately on ECOT, are you responsible for any student outcomes associated with the school at this point or in the future how is that going to work?

Well, this is Nate speaking. We are not responsible obviously for any performance at ECOT. We stand by our performance as the Ohio Virtual Academy, which is where students came in. We will see perhaps some of these students if they weren’t performing at ECOT we could see an impact ourselves, but we will be able to delineate that, we will be able to make sure that we are focused on re-mediating any shortcomings they had from being in the ECOT program and make sure that we bring them up to the K12 standard. Now in addition to that we are working with the Department of Education, so they understand those specific students and we will track their activity, but I will be honest with you, our primary focus is on making sure those students are getting the best attention they can and if that hurts our overall performance against proficiency levels and accountability metrics we will take that to the Department of Education and explain it to them. But our first approach is not to make an excuse that those students, our first approach is let’s help those students get a better education. That’s the primary goal. And I think you have asked about numbers and there is a number out in the marketplace, it says I don’t know something like 4,000 students came in, that’s actually the wrong way to think about this. We have probably had 4,000 applications and students who enrolled, but they were exploring all of their options. The way to think about it is they enrolled in our school, they enrolled in other online schools and they looked to brick-and-mortar schools and then they made the decision. So, we actually didn’t get 4,000 students benefit from ECOT. We got a number that was little more than half that. And then I don’t want to disclose individual numbers, but that’s the range. Most of the improvement that we saw this year was related to as I mentioned our overall retention in other schools across the country. That probably had the bigger impact than just what happened in Ohio in ECOT. Did that help you?

Yes, very helpful and congratulations again.

Thanks, again Ken. Appreciate it. And any other questions?

Ladies and gentlemen, we have reached the end of the question-and-answer session. And I would like to turn the call back to Mr. Davis for closing remarks.

Yes. I only have one closing remark. It is actually a funny story. We were sitting around talking internally and we discussed the fact that internally we feel like we are in one of the best quarters, one best years and this is one of our best earnings calls that we have had in long time. We are pretty excited about where we are as a company. The FY ‘18 results, I think speak to that, our intentions and where we think we are for FY ‘19. I think we are in a good place. I am happy and I am proud of the team. I am proud of what this company has accomplished and I am pretty excited about where we are going. So I really appreciate you listening to us today. Thank you for your time.

This concludes today’s conference. You may disconnect your lines at this time. Thank you for your participation.