Universal Technical Institute, Inc. (UTI) Q2 2017 Earnings Report, Transcript and Summary

Hello and welcome to Universal Technical Institute’s second quarter 2017 conference call. [Operator Instructions] At this time, all participants are in listen-only mode. And after today’s prepared remarks, we’ll open the lines for questions. As a reminder, today’s conference call is being recorded. A replay of the call will be available for 60 days at www.uti.edu, or through May 15, 2017 by dialing 412-317-0088 or 877-344-7529 and entering pass code 10106031. At this time, I would like to turn the conference over to Ms. Jody Kent, Vice President of Communications and Public Affairs for Universal Technical Institute. Please go ahead.

Hello and thank you for joining us. With me today are Kim McWaters, Chairman and CEO; and Bryce Peterson, Chief Financial Officer. During the call today, we will update you on our fiscal second quarter business highlights, our financial results and our vision for the future. Then we will open the call for your questions. Before we begin, we must remind everyone that, except for historical information, today’s call may contain forward-looking statements as defined by Section 21E of the Securities Exchange Act of 1934 and Section 27A of the amended Securities Act of 1933. I’ll refer you to today’s news release for UTI’s comments on that topic. The Safe Harbor statement in the release also applies to everything discussed during this conference call, including initial comments by management as well as answers to questions. During today’s call, we will refer to EBITDA which is a non-GAAP measure representing net income exclusive of interest, income taxes, and depreciation and amortization. The schedule provided in the earnings release reconciles EBITDA to the nearest corresponding GAAP measure, net income or loss. Now, I’d like to turn the call over to Kim McWaters, our Chairman and Chief Executive Officer.

Thank you, Jody. Good afternoon everyone and thanks for joining us on our call. Over the past 50 years we have established UTI as the nation's leading provider of technician training for the automotive, diesel, collision repair, motorcycle and marine industries. Demonstrating our strong track record of results, we have graduated over 200,000 technicians in that time and 88% of our 2014 and 2015 graduates went to work in the fields for which they trained. Through our focus on industry, we have built quality educational programs and very strong relationships with industry leaders such as BMW, Cummins, Ford, Freightliner, GM, Harley Davidson, Honda, NASCAR, Mercury Marine, Peterbilt and Porsche, just to name a few. While student starts were softer than expected in the first half of the year, we have made good progress on our plan to further differentiate UTI by building out our course offering, moving forward with our plan to open additional smaller campuses and optimizing our marketing mix. This progress is especially meaningful as we continue to face macroeconomic and regulatory headwinds. I’ll provide a more detailed update on these strategies in a moment. Over the past several months we have taken important steps to strengthen our financial foundation. The financial improvement plan we implemented in September of 2016 has significantly reduced costs and reset our cost structure. In fact, we now believe we are on pace to deliver annualized cost savings at the higher end of between $30 million and $40 million in fiscal 2017. Bryce will give more detail on the factors supporting this updated outlook later in the call. In light of the softer than expected new student starts in the first half of the year, we have adjusted our marketing strategy further and further enhanced our student support services to achieve our goal of generating new student start growth in the second half of 2017. In addition, we are carefully evaluating additional opportunities to invest in the business to meet our long term goal of profitable growth while also ensuring we maintain a prudent cost structure. Now I’ll turn to a review of our strategic initiatives aimed at growing new student starts further differentiating UTI and setting the stage for long term success. In the High School segment, we are working to improve our recruitment processes, increasing our visibility with potential students and in partnership with local employers to ensure we clearly articulate UTI’s compelling value proposition. The U.S. Department of Education’s College Scorecard data underscores the benefits of a UTI education. With approximately one year of schooling, UTI students have graduation rates and median earnings ten years out that compare quite favorably to two year community colleges and four year liberal arts universities. Converting applications into new student starts is vital to our business and it's part of our focus on improving the show rate, we're working to ensure students are prepared for and motivated to start classes. This year we hosted a number of Open House events for future and prospective students to attend. While on campus, students competed for scholarships, met with our financial aid staff and listened to our OEM partners and employers as well as graduates who gave our students real world examples of what's possible with training from UTI and the post-graduation benefits our employers provide our students. Regarding the military segment, we're continuing to work to regain base access with support from congressional leaders who are passionate about helping veterans building rewarding careers as they transition to civilian life. To further expand our program offerings on military bases, this summer in partnership with BMW we are launching a new program at Camp Pendleton in California. This program will give qualified service members with mechanical experience access to BMW specific technician training on base. BMW will fund the buildout of the facilities, supply all the tools, equipment cars and curriculum while UTI will provide recruitment support in return. We also maintain a presence at Fort Bliss in Texas where our motorcycle program gives soldiers access to technician training before they leave service which they can then transfer to finish their program at either of our two MMI campuses. Our industry partnerships deliver value to our students and we're leveraging them further to set UTI apart. In April, we celebrated the grand opening of the new INFINITI manufacturer specific advanced training program at our Long Beach campus. This advanced training is the first of its kind for INFINITI and exclusive to UTI. INFINITI is offering full tuition payment for its program for UTI graduates who are accepted into the eighteen-week training and commit to working with an INFINITI USA retailer once they complete the program. Like all of our advanced training programs, this program provides industry with the skilled workforce and our students with valuable training for manufacturers that can accelerate their earnings and career advancement potential. In addition, we signed a two year extension to our manufacturer training partnership with Mercedes Benz. We're also adding a fourth UTI training location on site at Mercedes Benz in Grapevine, Texas with an expected start early this summer. We continue to explore and expand dealer-sponsored workforce training solutions for our key OEM partners which are especially valuable opportunities to generate non-Title IV revenue. Our work to open smaller commuter friendly campuses in locations with strong student and employer demand continues to move forward. Smaller campuses attract a population of students who can work and live at home without incurring the cost of uncertainty of relocating to attend school. As we've seen in our first two markets, Dallas and Long Beach, these campuses have the potential to expand our pool of potential students and support profitable growth. Long Beach continues to perform well and we expect it and future smaller campuses to be accretive to earnings within the first eighteen months of operation and to be cash flow breakeven by year four. As I mentioned last quarter, we're targeting to open our next smaller campus in the summer or fall of 2018. As promised, we've identified several strong contenders and have narrowed that list to two top sites in the Northeast United States. We're currently in the negotiation stages and we will provide an update as soon as we have definitive information. We're also investing in new program offerings that complement our core competencies in technical training, serve our student population and address strong market demand. Our welding and CNC machining programs are the latest examples. These programs give us opportunity to attract new students to UTI and can help us optimize excess capacity at our existing campuses. In February, the Department of Education approved our welding and CNC machining technology programs, demonstrating important traction on this initiative. Our CNC machining classes begin late this summer at the NASCAR Technical Institute in Mooresville, North Carolina, and our welding technology classes will begin this summer at our Rancho Cucamonga, California campus. We have also received state approval to open a welding program at another campus in early calendar 2018 but we're not ready to announce a specific location yet for competitive purposes. We also received state level degree granting approval at our Rancho Cucamonga and Sacramento campuses which is appealing to students, parents, and educators. It reinforces the legitimacy of our education and enables us to offer a unified curriculum to our entire student population, including veterans. We're currently awaiting approval for our Dallas campus and are planning to expand degree granting to our Long Beach and Orlando campuses this year. To better equip our students for their future careers, we are leveraging our acquisition of BrokenMyth to provide our students with more effective and advanced training. As a reminder, BrokenMyth creates interactive 2D, 3D and augmented reality technical training content for hands-on learning audiences. Over the next two years we plan to upgrade our coursework at our automotive campuses. In addition to enhancing and expanding our library of digital training courses for our existing business, we're also looking to expand into new verticals outside of the core, including workforce training solutions, continuing education programs, stackable certificates, and more. We look forward to providing you with updates as we advance this effort. Regarding affordability, we continue to work to make college more accessible and affordable to students. Accordingly, we have several support programs underway. We are now an eligible Cal Grant school at our Rancho Cucamonga and Long Beach campuses. This enable students access to traditional resources -- excuse me, additional resources up to approximately 3000 per year and this helps to reduce their tuition costs. We have not been able to participate in this program at our Rancho Cucamonga campuses since 2014 and at Long Beach since the campus opened in 2015. We are very excited that our students are now eligible. Just last week in the White House and a bipartisan group of congressional leaders reached an agreement on a bill to fund the remainder of the federal 2017 fiscal year and it included an important revision to the Pell Grant program. When passed, this measure will provide up to 150% of annual Pell award to eligible students to attend school year round. This is starting with the 2017, 2018 award year beginning July 1, 2017. This expansion will benefit our student population as nearly 70% are Pell eligible and all of our students attend full time on a continuous basis. With up to an additional 3000 in Pell Grant money, the year around Pell will provide additional debt relief to our students as they strive to complete school on time and begin their new careers. Additionally the associated reduction of debt needed for tuition, they provide ancillary positive impacts to our gainful employment outcomes. We also have piloted a need based institutional grant program that is currently undergoing testing to gauge its impact in helping more applicants start school. We've been very pleased with the students' receptivity to this program as well as their commitment to show to school. We're also continuing to grow, develop, and promote our tuition reimbursement and incentive program. This program helps mitigate parents and prospective students’ concerns regarding tuition costs and student loan repayments by offering partner sponsored programs. We currently have approximately 3000 tuition reimbursement incentive programs being offered with some of the reimbursements covering full tuition costs. In one such example, a large automotive retailer offers a technician career program valued at over $25,000, including tuition reimbursement, a $2000 reimbursement for tools, and a $3000 ten year bonus after four years of employment. In addition to helping attract more students to UTI, programs such as this enable employers to recruit and retain UTI trained technicians. We are continuing to evaluate additional skill based programs that leverage our core program offerings to prepare students in a different area of expertise at more flexible price points and program length. This can help provide increased options for prospective students as well as increase our pool of potential applicants. In marketing, we continued to dial in the front end of our strategies to cost effectively increase quality inquiries and student enrollment rates. In the first quarter, inquiries were negatively impacted by technology issues and our media mix being too heavily weighted toward paid social and affiliate vendors. To increase inquiries, we invested more in paid social and affiliate vendors with the expectation that the increased lead volume would offset the lower conversion to application and start rates that these sources typically generate. This did not happen and we discontinued performing [ph] affiliates in mid-March. We are continuing to adjust our marketing spend to strategically balance investments in traditional and digital outreach as well as local and national advertising. While it is still early, we're seeing some promising signs in markets where these strategies have been rolled out. Our marketing efforts are led by Piper Jameson who we hired back in February as our new chief marketing officer. She has served in various leadership roles with UTI in the past. She knows our business well and is passionate about our mission and has the skills to implement effective and efficient marketing initiatives that drive inquiry and enrollment growth. In terms of the regulatory environment we've been encouraged by the new administration’s focus on education choice. We hope this will prompt policy and/or regulatory changes that benefit our students. Despite the challenges we’ve experienced I'm confident in the direction we're heading. We are focused on managing those factors within our control and executing on the initiatives that can fuel our future growth. And now I'd like to turn the call over to Bryce Peterson to review our operating results.

Thanks Kim. I'll start with a review of our business metrics and then discuss our financial results for the second quarter. Total starts were 1900 compared to 2300 in Q2 of last year. Our average student enrollment for the second quarter was 10,900 compared to 12,200 last year. On a year-to-date basis, average student enrollment was 11,400 compared to 12,700 for the prior year period. At the end of the second quarter, about 38% of the students in school were benefiting from a UTI scholarship or discount, as compared to about 35% in the second quarter of 2016. These scholarships and discounts reduced tuition revenue by 3.5% this year compared to 3.3% in the second quarter of last year. For the fiscal quarter -- or for the second fiscal quarter of 2017 compared to the same quarter last year, revenue was $82.5 million, excluding $4.4 million in tuition revenue related to students participating in our proprietary loan program, which will be recognized as revenue when the payments are received. This compares to $88.2 million in revenue for the second quarter of 2016 which excluded $4.6 million in tuition related revenue. The year-over-year revenue variance was attributable to a 10.7% decrease in our average student population. Total operating expenses were $81.8 million compared to $94.0 million in the prior year period. The $12.2 million improvement is largely due to lower compensation expense and improved operating efficiencies pursuant to the implementation of the financial improvement plan. Advertising expense was $10.7 million for the second quarter compared to $11.7 million for the prior year period. The $1 million decrease is consistent with our strategy to reduce spending in certain channels and our media mix. However the run rate may vary as investment opportunities arise. As Kim mentioned earlier, we continue to evaluate our lead generation sources to eliminate lower quality sources. Operating income was $0.7 million compared to an operating loss of $5.8 million for the prior year period. The improvement reflects the significant cost reductions I just mentioned and $1 million in operating income from the Long Beach campus which opened in August 2015. To put this improvement into perspective, even with the year-over-year revenues down $5.7 million in the quarter, we were able to improve operating income by $6.5 million over the same timeframe. We also recorded a preferred stock cash dividend of $1.3 million in second quarter which was related to our $70 million capital raise in June 2016. Net loss for the quarter was $1.7 million or $0.12 per diluted share compared to a net loss of $32 million or $1.32 per diluted share last year. Please note we recorded income tax expenses of $2.1 million and $25.7 million during the second quarters of fiscal year 2017 and 2016 respectively due to a valuation allowance on our deferred tax assets. EBITDA, which excludes interest income, tax, depreciation and amortization, reached $5.6 million in the second quarter of 2017 compared to a loss of $0.6 million for the prior year period. For the six months ended March 31, 2017 compared to the same period in 2016, we recorded revenues of $166.7 million compared to $178 million which excluded $9.4 million and $10.3 million respectively of tuition related to students participating in the proprietary loan program. The decrease in revenue was attributable to a 10.2% decline in average student population. In addition, there was one less earning day in the first half of 2016 which impacted comparable revenue by $1.3 million. Year-to-date operating expenses are $164.6 million compared to $185.9 million for the prior year period. Operating income was $2.1 million compared to an operating loss of $8 million. Net loss was $3.5 million or $0.25 per diluted share compared to $33.7 million or $1.39 per diluted share for the prior year period. EBITDA was $11.9 million compared to $2.3 million for the same period of 2016. From a liquidity perspective, we had cash, cash equivalents and investments of roughly $98.7 million at March 31, 2017, compared to $120.7 million at September 30, 2016. This decrease in cash was primarily attributable to collateral requirements for surety bonds renewed during the quarter and changes in working capital. When we outlined our financial improvement plan in September 2016, we set a target of $25 million to $30 million in expense reductions for this year. To date we have implemented initiatives to drive annualized cost savings at the higher end of between $30 million and $40 million. The timing of the savings will obviously vary from quarter to quarter. This savings plan includes reduced compensation and benefits expense from a 27% reduction in our corporate staff and campus support teams. The move to graduate based compensation for our admissions team which takes a portion of our compensation expense from fixed to variable, ongoing process improvements and a more cost-efficient marketing and public relations plan. This work combined with the capital investment we secured last June enabled us to continue investing in the business and remain compliant with our regulators and our accreditor. I’ll now update our outlook for fiscal 2017. As previously stated, we expect new student starts in fiscal 2017 to decline by high single digits as a percentage compared to fiscal 2016. We remain confident in our goal to grow student starts in the second half of this fiscal year. Combined with the number of students currently in school and the timing of the anticipated start growth, our average student population for the year is projected to be down in the low double digits as a percentage compared to the prior year period. We now expect revenue to be down in the mid to high single digits as a percentage in fiscal 2017. As previously mentioned, we expect our financial improvement plan to deliver at the higher end of between $30 million and $40 million an annualized cost savings within the fiscal year. Netting the increased cost savings was softer than expected student starts, we now expect operating results for fiscal 2017 to range between operating income of $1 million and an operating loss of $1 million. We expect the operating loss would be driven by the identification of, and investments in additional success based marketing initiatives in 2017 that would build out our student pipeline into fiscal 2018. We continue to expect significantly improved EBITDA for fiscal 2017 as compared to the prior year. And we now expect capital expenditures to be approximately $10 million to $11 million for this year. Many of our investors have requested updates pertaining to our footprint rationalization efforts. Now I’d like to provide an update on our progress. As Kim mentioned earlier, our new welding program is set to open this year and will better utilize capacity at our Rancho Cucamonga campus. Our new CNC program will also open this year and will better utilize capacity at our Mooresville, North Carolina campus. We've also received the required approvals to open our new welding program at another campus in early calendar 2018 which will better utilize the existing capacity at that location. We finished relocating team members from our headquarters in Scottsdale to our MMI Phoenix motorcycle campus. This allowed us to sublease a portion of our corporate office space and improve capacity utilization at MMI Phoenix. We remain focused on evaluating all opportunities to further optimize our real estate square footage and take advantage of cost savings opportunities where we see them and we will keep you apprised of our continued progress on this front. I also wanted to give you a brief update on several regulatory matters. As we discussed on our November call we calculated our fiscal 2016 composite score to be above the financial responsibility threshold set by the Department of Education. In February, ED notified us that it had completed its review of our financial statements and removes the requirement to comply with heightened cash monitoring. As previously reported, we received our final gainful employment figures in early January 2017 which were consistent with the draft numbers we highlighted in our annual report with none of our programs failing. Nine of our programs passed and three were in the zone. For the programs in the zone, we are monitoring anticipated future rates and implementing remedial strategies where necessary. We believe we will be successful in achieving a passing score for all programs. We are continuing to evaluate the potential impact of the new Defense to Repayment regulations published in early November 2016 and if the new administration will make any changes to this and any other regulations currently in place. With that, I will turn it back over to Kim for a few final thoughts.

Thank you, Bryce. Over the past several quarters, we discussed our progress on plans to further improve our students' educational experience, to meet our partners’ growing demand for trained workers, to reduce operating costs and ultimately return the company to profitable growth. We remain focused on the following initiatives furthering our penetration of the high school and military segments: moving forward with our smaller campus strategy to expand our national footprint and drive revenue growth; diversifying our offerings to help deliver strong outcomes for our students in a variety of technical career path; expanding tuition affordability options for our student population; adjusting our marketing strategy to drive results; and maintaining a prudent cost and expense structure. We continue to be very confident in the long term trajectory of our business. The demand for trained technicians in the transportation industry remains very strong and the education we offer students provides significant value to both our partners and students. Operator, we are now ready to take your questions.

[Operator Instructions] And our first question will come from Barry Lucas of Gabelli & Co.

How are you today, Kim?

We are doing well; thank you.

Good. I've got several, and the first one I want to start with is maybe a little bit of nitpicking. But in the comments in the release, you’re talking about – or you said that you're encouraged by initial results and changes in the marketing strategy. And I think we've heard -- we may have heard that comment, or commentary like that previously, something wasn't working in the March quarter. So maybe you could just provide a little bit of color if it doesn't hurt you from a competitive standpoint, and just identify what's working and what's giving you the encouragement that we're going to see start growth and the half that has started?

Thanks for the question and I'll try to provide some context. I think what we've seen in the quarter in terms of student starts reflect the challenges that we've talked about on the previous calls and the marketing challenges we discussed in first quarter. During the second quarter we made significant changes to our marketing mix and moved away from some of those underperforming lead sources that did not convert at the levels we had expected. By the end of the second quarter, our marketing mix and strategies have been effectively deployed and we are encouraged by what we're seeing in the marketplace in terms of our inquiries from a volume standpoint and a mix to a higher quality source. Now we won’t see the benefits of those changes in subsequent quarters, because there is just an inherent lag between the point of inquiry to the time those students actually convert to applications and then to start. But I am encouraged with the mix we have moved our marketing mix from more of a, I’d say, digital focused to include more traditional and heavier weight on television. And so far we've had positive feedback from the campuses with those changes in the local markets.

And just maybe one for Bryce here. Since – I just want to make sure I’ve got this right. Your outlook for the full year at the operating income line -- if I have that right, the operating income line would be roughly breakeven plus or minus $1 million.

That’s correct.

And if I look at for the six months, and additional cost savings and a little bit more maturity at the Long Beach campus, you’re suggesting that operating income is down materially or certainly below the first half levels, so what’s contributing to that?

So as we've talked about before, while our expenses are relatively flat quarter over quarter -- not perfectly but certainly much more so than revenue, our fiscal third quarter is generally a much lower quarter from an average student population perspective. And so as we have greater numbers of students graduating and shorter number of students starting, then that puts pressure. And so that's where you're going to see some of the year to date numbers start to degrade a little bit as we push into the rest of the fiscal year and that swings background in the fourth quarter.

[Operator Instructions] Showing no further questions, this will conclude our question and answer session. I would like to turn the conference back over to Kim McWaters for any closing remarks.

Well, I would really like to thank Barry for dialing into our call and for the questions and are happy to follow on after this call. I know a number of companies are reporting at this time, so Bryce and I stand ready to visit with analysts and investors. But meanwhile thank you for your questions. Barry and –

Ms. McWaters, we did have a question come in. Okay, thank you. We have a question that came in from Ken Jacobsen, a private investor.

Thank you. Afternoon folks. I have a general question for general discussion, that's tuition. What I'm wondering is what type of analysis and/or research has gone on in the past relative to tuition and student starts and student population? And what I'm driving at is rate volume -- as rates go up the tuition goes up, your volume tends to go down, basic ECON101 versus lowering tuition and driving in student volume. Just kind of looking from the side it just seems like if you could lower tuition you could drive in more students and get a lot of benefit on a fixed variable cost structure, utilization of campuses et cetera. And sort of babbling on here but basically just wondering about tuition and where it may be going in the future?

Well, it's a very good question and certainly we've spent quite a bit of time looking at the tuition and enrollment and start rates and have done some formal research as well as have tested a number of different programs – scholarship, most recently the institutional grant and are also looking at varying program lengths and price points to determine if there is something that will motivate students to show to school and complete at higher levels than we've seen in the past. I think we've done a lot of work on scholarship levels and we're comfortable with what we're doing on that front. We have been encouraged with the institutional grant that I spoke of earlier that has launched inside of the third quarter and we're testing various levels in student responsiveness to these levels to drive different behaviour. And I think we'll be in a better position to report on that in the next quarter. The shorter programs and the new programs with welding and CNC are at lower price points and we will determine interest in that again during this next quarter as we roll some of these programs out and have the official start. We have done a ton of modeling to look at various tuition reduction strategies and have evaluated whether or not that would be offset with volume and enrollment and have chosen to do targeted support through scholarships and institutional grants and varying program lengths that I think we will again be in a better position to report on next quarter. End of Q&A

And once again Ms. McWaters I am not showing any additional questions at this time.

Okay. Well, thank you again and we appreciate your time and interest in Universal Technical Institute and we look forward to speaking with you about our third quarter results and that call is currently scheduled for August 3. Have a great day everybody .Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.