Walden University (CVSA) Earnings Call Transcript & Summary

Good morning, and welcome to Adtalem's Conference Call. [Operator Instructions] This call will be recorded. I would now like to turn the call over to Maureen Resac, Vice President, Treasury, and Investor Relations.

Thank you. Good morning, everyone, and thank you for joining us today to discuss Adtalem's agreement to acquire Walden University, which we announced earlier today. Joining me today are Lisa Wardell, Chairman and Chief Executive Officer; Mike Randolfi, Chief Financial Officer; and Stephen Beard, Chief Operating Officer. You will find a brief slide presentation in the Investor Relations section of our website, investors.adtalem.com, and we'll walk through that presentation this morning. Before we begin, I'd like to draw your attention to the forward-looking statements and additional legal information, which are available at the beginning of the presentation. As a reminder, today's conference call contains certain projections and other forward-looking statements within the meaning of the federal securities laws. These statements are subject to risks and uncertainties that may cause actual results to differ materially from those expressed or implied in these statements, as more fully described in Slide 2 of our presentation. Additionally, Adtalem's Form 10-K filed with the SEC on August 18, 2020, includes additional information on the risks and uncertainties that may bear directly on our business. Now I'd like to turn the call over to our Chairman and Chief Executive Officer, Lisa Wardell.

Thank you, Maureen. Good morning, and thank you for joining us. Today, we are extremely excited to announce an agreement to acquire Walden University, a leading online healthcare education provider from Laureate Education. This transaction is the next step in our ongoing transformation to a leading workforce solutions provider and one that provides us increased scale, enhanced capabilities, expansive synergy opportunities and significant long-term value creation for shareholders, all while amplifying the social impact we have on our students, employer partners, and the communities that we serve. Financially, Walden is expected to be significantly additive to Adtalem's free cash flow, excluding special items in year 1 and accretive to EPS from continuing operations, excluding special items by year 2. We expect annual cost synergies of approximately $60 million, $30 million of which we expect to be realized in the first 12 months, with the potential for incremental upside from revenue synergies. Our projected ROIC is also 25% to 50% above our current weighted average cost of capital of approximately 8%. We will go into more detail on the financial benefits this transaction provides later in the presentation. We are proud that this acquisition will create a national leader in health care education, providing students, especially underserved students, with access to high-quality education across modalities and price segments. We're also enthusiastic about the value this transaction provides our shareholders. It is highly accretive and provides Adtalem with a clear opportunity for long-term value creation. This acquisition provides the company with a breadth of online and on-campus offerings in an industry with extremely attractive short-term and long-term tailwinds, including demand for health care professionals, well in excess of current supply and a greater understanding and usage of online health care education. I'd like to start on Slide 5 with a brief overview of the transaction. The total purchase price is $1.48 billion and represents a compelling pre synergy adjusted EBITDA multiple of 8.4x. The transaction will be financed with committed financing led by Morgan Stanley. Walden will operate as a distinct independent institution and the Walden brand will be retained as part of Adtalem. We also plan on retaining key members of Walden's leadership as they and their team bring additional experience in online learning and expertise in the health care sector that will further strengthen our bench of talent at Adtalem. The transaction is expected to close in the first quarter of fiscal year 2022 that is mid-calendar year 2021, subject to approvals by the Department of Education, state regulators and relevant accreditation bodies, including the Higher Learning Commission, among other customary regulatory approvals and closing conditions. Moving to Slide 6. You can see the transformation of Adtalem into a workforce solution provider with scale in medical and health care through the addition of quality health care institutions and the streamlining of the portfolio away from noncore assets in order to be laser-focused on growth assets and growth industries, those industries -- health care industries with superior academic outcomes. Walden is the next logical step in adding quality programs that both provide social impact in the communities we serve and allow us to solve complex problems for hospital systems at scale. On Slide 7, you can see an overview of Walden, their key metrics and their accolades. Walden is a fully online university with strong offerings in the health care vertical, and provides bachelors, masters and doctoral degrees to more than 50,000 students across all 50 states and in 160 countries. We believe Walden is a fantastic fit for Adtalem, not just commercially but also culturally, given our shared values and passion for serving students as evidenced by their achievements in recent years. Walden is the #1 conferrer of MSN degrees in the U.S. and #1 among 372 U.S. institutions for awarding doctorates to African American. Moreover, Walden was the first fully online university accredited by the Council on Social Work Education as well as 6 other specialized accreditation. Turning to Slide 8. As mentioned at the beginning of our call, this acquisition will create a premier national health care educator and address the growing importance of and demand for online learning modalities. Our combined institutions will have over 90,000 enrolled students, will be 82% online and offer approximately 100-degree programs ranging from bachelors to doctoral degrees, with 2/3 of those degrees at the graduate level. Together with Walden, Adtalem will be #1 in the undergraduate and graduate nursing enrollment in the United States and the #1 provider of MDs, PhDs, and nursing degrees to African American. These are numbers we're very proud of, and we are honored to assume the responsibility associated with hoping make these impressive numbers possible. Our market-leading position across a spectrum of nursing programs will also be unrivaled. As you can see on Slide 9, based on 2019 data, the combined company will command the #1 rank in bachelor's degree of science and nursing, the BSN, Family Nurse Practitioner, Master of Science in Nursing and Doctor of Nursing Practice, DNP, and continue to expand our already significant enrollment advantage over our next closest competitor. I will now turn it over to Mike, who will walk you through the financials in greater detail.

Thank you, Lisa, and good morning, everyone. Our first threshold when evaluating any M&A opportunity is the potential for ROIC to be greater than our cost of capital and the accretive nature of the transaction. As we detailed in the next few slides, the acquisition of Walden provides meaningful incremental free cash flow, is expected to be highly accretive after year 1 and will generate an ROIC well above our current weighted average cost of capital. Turning to Slide 10. You will see that Walden is expected to add substantial free cash flow from year 1 and onwards. By year 4, the transaction is expected to contribute $140 million to Adtalem's free cash flow. The free cash flow generated from the acquisition will increase our financial flexibility. Specifically, it will enhance our ability to invest in future growth and contribute to our capacity to delever. Turning to Slide 11. This acquisition is also highly accretive. We expect earnings per share from continuing operations, excluding special items, accretion of $0.75 in year 2, increasing to $1 in year 3, and $2.35 in year 4 after the effects of purchase price accounting fully subsided. It is important to note that dilution in year 1 is entirely due to purchase accounting impacts to the income statement, which are noncash in nature. Nevertheless, the transaction provides significant long-term value creation for shareholders. Turning to Slide 12. This long-term value creation opportunity is expected to generate an ROIC of between 10% to 12% beginning in year 1, which is 25% to 50% above our current weighted average cost of capital of approximately 8%. Not only is this transaction extremely compelling with strong commercial logic, but is a very efficient use of capital that we believe will create significant long-term shareholder value. Turning to the next slide, on Slide 13, on financing. This transaction takes our pro forma net leverage ratio to 2.8x as of June 30, 2020. We are confident in our ability to realize the full potential of the transaction, while maintaining a strong balance sheet. We expect to have the ability to delever to under 2x within 24 months of the close, if desired. This is enabled by the financial benefits of the transaction, which are expected to result in margin expansion and robust free cash flow generation. I will now turn the call over to Steve, who will discuss the industry dynamics and the experienced Walden team that we expect will join the Adtalem family.

Thank you, Mike, and good morning, everyone. Turning to Slide 14, which we presented during our 2019 Investor Day. We have very clear criteria when evaluating M&A opportunities to ensure that we are creating a long-term value for our shareholders. As an asset, Walden meets our requirements and expectations in each of these important areas. For example, as Mike mentioned, the acquisition of Walden is expected to generate positive free cash flow, excluding special items, and be accretive to EPS from continuing operations, excluding special items. Additionally, with Walden, Adtalem becomes an even more strategically focused business with increased scale and enhanced capabilities. Furthermore, Walden's talented leadership team and staff will further solidify Adtalem as the national leader in health care education with an unmatched depth and breadth of online, on-campus and hybrid education offerings and clinical partnerships. Turning to Slide 15. We're really excited about this transaction and the opportunities it provides to us to increase scale, enhance our capabilities, amplify our social impact, all while creating significant long-term value for shareholders. Specific to our ability to scale, the health care sector and online education areas are growing rapidly. Based on a report from Burning Glass Technologies, health care practitioners and health care support rank amongst the highest occupations in which demand exceeds supply. In nursing alone, the Bureau of Labor Statistics estimates that health care industry will need more than 200,000 new registered nurses each year through 2029 to fill newly created positions and to replace retiring nurses. The COVID-19 pandemic has only strengthened our conviction in our decision to acquire Walden. It highlights the need to bolster the health care sector, its accelerated innovation such as telehealth, and it's further exposed the geographic and demographic disparities in access to quality health care, which we aim to address with quality graduates serving diverse communities. Slide 16 illustrates the nursing education market continues to grow, and we have experienced a growing demand for online learning. Degrees granted by online providers have outpaced degrees granted from on-campus or hybrid models over the last 5 years. This is especially true for primarily online nursing enrollment which has grown faster than hybrid and on-campus delivery models across the top 25 nursing institutions. Turning to Slide 17. By adding Walden to our existing health care portfolio, Adtalem becomes an even more strategically focused business with significant scale and will be able to increase the talent supply necessary to address the rapidly growing and unmet demand for health care professionals in the U.S. and abroad. As shown on the slide, the transaction also addresses the growing importance of online learning and will create a pro forma online student cohort of 82%. Walden's depth and breadth of online expertise will enhance our ability to serve students across proven learning modalities, and reach more lifelong learners with education options that fit their needs and their lifestyles. We believe that offering this kind of flexibility to our students is a huge value proposition that will aid in recruitment, retention and outcomes. Turning to Slide 18. A combined Walden and Adtalem will be able to enhance our existing portfolios by transforming how we integrate and deploy capabilities across the enterprise. This acquisition is expected to provide significant potential for growth and margin expansion through new and expanded offerings as well as revenue synergies. Turning to Slide 19. Much of the value in this transaction is in Walden's online capabilities and experienced leadership team and staff. Given this, we're excited to welcome talent with specific experience in online learning and expertise in the medical and health care sector, including Walden executives, Paula Singer, Steven Tom, and Jeff Tognola. Turning to Slide 20. With Walden, Adtalem will have an even greater ability to broaden access to high-quality education for students through an unmatched depth and breadth of online, on-campus and hybrid educational offerings and clinical partnerships. Through the acquisition, Adtalem will also gain additional capabilities in multiple learning modalities, which have become increasingly important since the onset of the global pandemic. In addition, Walden will gain access to Adtalem's innovative offerings and our track record of delivering outstanding student outcomes. On Slide 21, we see that the acquisition is expected to provide approximately $60 million in annual cost synergies through increased efficiencies in marketing spend and back-office operations. This will allow us to capture cost efficiencies without negatively impacting the student experience, something that is of utmost importance to us. We also expect incremental upside from revenue synergies by providing new and complementary educational offerings, increased student acquisition and retention capabilities, as well as enhanced scale and coverage that will allow for new and more robust partnerships with mid- and large size employer partners in the health care sector. Once again, we are thrilled about the potential unlocked by this acquisition. The increased scale, experience, and added modalities will benefit all of our stakeholders. But more importantly, this transaction will further our mission in address the growing need for qualified health care professionals. And with that, I'll turn the call back to Lisa.

Thank you, Mike and Steve. Since I became Adtalem's CEO, we have worked to focus Adtalem's portfolio and divest those businesses that were not aligned with our long-term growth strategy. The acquisition of Walden is a pivotal next step in our ongoing transformation to a leading workforce solutions provider with substantial scale in the rapidly growing health care industry, solving increasingly complex talent supply challenges for health care providers. In summary, we are excited about this transaction and the opportunity it offers. Walden is a strong strategic and cultural fit for Adtalem and importantly, builds on our commitment to providing greater access to education, particularly for students of diverse backgrounds and those from underrepresented demographics. We remain committed to maximizing long-term shareholder value and believe this transaction creates a compelling opportunity to do so. With a wide breadth of online, on-campus and hybrid health care program offerings, this acquisition will significantly expand our National Healthcare Education footprint and will further enable us to reimagine the future of health care education at a time when global health has never been a greater priority. It also will support our vision of creating a dynamic global community of lifelong learners, empowering them to achieve their goals, find success and make inspiring contributions to the global community. Our immediate focus will be on integrating these businesses, capitalizing on the enormous opportunities this transaction presents, realizing the synergies we've identified and continuing to deploy capital efficiently. Operator, we would now like to open the call for questions.

[Operator Instructions] Our first question is from the line of Jeff Silber with BMO Capital Markets.

Really appreciate you guys doing this call. My first question is, if you can just give us a little bit of background. I know this is an asset that had been speculated to be sold over the course of the past few years. How long have you been looking to acquire Walden? Is this something that just happened recently or is it something that's been on your radar screen a while?

Yes. I will start and ask Steve to jump in if I don't miss anything. So as you know, we continuously look at those assets that we believe are going to be additive to our overall student outcomes and student optionality in those areas, including medical and health care, where we just see the growth and see the opportunity to serve not only students, but obviously, our employee and partners. So we really view Walden University, not only as the crown jewel of the Laureate portfolio, but also as a health care educator that has really top-notch accreditation, has -- enjoys a good relationship with the higher learning commission as some of our institutions do and also aligns with the outcomes in terms of NCLEX scores that are at or above the national average and placement for those graduate degree students at very high rates. So when we look at them and sort of look at the whole market and think about the return on investment for students because at the end of the day, that's what our regulators and accreditors really wanted to see, we saw that as a natural fit. And of course, Laureate had a predetermined sort of strategy in terms of divesting all of their institutions and businesses.

So again, is this something that you just started looking at since Laureate made that announcement earlier this year? Or had you been looking at this asset for a while?

We have been looking at this asset for some time, that this was not sort of borne out of that release.

Okay.

So the transaction isn't opportunistic. It's been 1 that would have fit our strategy for some time, particularly once we focused on the 2 industry verticals in health care and financial services. But obviously, once Laureate's strategy was announced, we realized that the opportunity would have ripen to really grab one of the premier health care education assets in the U.S.

Okay. Great. That's helpful. One financial question, just looking at some of the slides you gave about the dilution in the first year, but the accretion thereafter it seems like a big jump between year 1 and year 2. I know you say it's solely due to purchase accounting, but I mean, is there that much intangible asset amortization in that first year compared to year 2, year 3 and year 4?

Sure, Mike, I'll let you take that.

Yes. So there's really 2 components to the purchase accounting impact. The very first part is deferred revenue and the second part is the amortization of intangibles. The deferred revenue is actually very significant. That's the -- that basically -- it is -- that impacts both -- that's -- the amortization of intangibles as well as the deferred revenue impact impacts year 1. When you get to year 2, it's only the amortization of intangibles and the deferred revenue impact is fairly significant. And so that's the big change in accretion between year 1 and year 2.

That's actually really helpful. I appreciate that. Is it possible to break out those 2 components size-wise in year 1?

Sure. Yes. I mean I would say, first, keep in mind, these are preliminary estimates as to what the purchase accounting impacts are. As you see in the slides be -- in the investor deck, it's about $134 million in total. We're estimating that it's about $62 million of deferred revenue and about $72 million annually from amortization of intangibles. That is our best estimate as of this time.

That's a better estimate than I have. So I appreciate that. That's helpful. And let me ask you a question that I've had a couple of investors ask me, so I'm just going to ask you this question. We're in an election year. Obviously, there seems to be a lot of jitters about a potential change in administration and more focused on for-profit schools. You're going to -- with this acquisition, I guess, the -- increasing your exposure to that potential negativity. Is that something that concerns you?

Short answer is no. So Jeff, a couple of reminders. So the first is that, obviously, we have been through prior administrations where we set our proactive regulatory strategy in and around making sure that the administration, whoever that administration may be, understands the return on investment for our students. Our academic outcomes, we always lead with those. As you know, our residency rate is at 92% and 95%, our NCLEX score is at 92%. And then we also -- if you will also recall in the prior administration, prior to this administration had our own student commitments where we voluntarily went to 85-15 to Title IV -- for Title IV funding. We are far below that now as we look at Chamberlain and some of these places where our workforce solutions provider strategy is really driving employer and corporate pay for our programs. And we see that as something that the Department of Education and the administration in general would see as very positive and in fact, did in the former administration. And then when we combine that with the fact that this is health care and medicine and that we are driving the social impact, not only of solving some of those supply pressures within that industry or a lot of those supply pressures, we have a low title for percentage as it relates to the overall for-profit industry. And then we're also serving diverse communities, which is a part of our DNA and a part of Walden's DNA. We feel very well positioned and in fact have good relationships on both sides of the aisle in that regard.