Stride Inc (LRN) 2018 Q1 法說會逐字稿

Greetings, and welcome to the K12 First 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, VP of Finance. Please go ahead.

Thank you, and good afternoon. Welcome to K12's First Quarter Earnings Conference 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 may be considered forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and 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, including, without limitation, cautionary statements made in K12's 2017 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 Stuart Udell, Chief Executive Officer; 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 Stuart. Stuart?

Good afternoon, and thanks for joining us on the call today. Today, I want to provide you with our guidance for fiscal 2018 as well as an update of our count date enrollments and other developments in our business. As noted on previous calls, we continue to see demand across the nation for online and blended learning options. As of the October 4 count day, total enrollment in K12 Managed Public Schools rose 2.4% year-over-year to more than 111,000 students.

We saw growth in both our existing and new schools. Importantly, after 3 years of declines, this is the second year in a row in which we posted year-over-year gains in Managed Public School enrollment. I also want to point out that due to our previously described retention issues last year, we ended fiscal '17 with about 97,000 enrollments, which was 1,000 lower than the prior year. Therefore, our jumping off point for the fiscal 2018 year was actually lower than the prior year, yet we still managed to post higher count date enrollments. This represented growth from fiscal year-end count date of about 14%, which was a 4% improvement over prior year. Said differently, we grew from about 97,000 enrollments at the end of fiscal '17 to more than 111,000 enrollments by October 4 for a growth of about 14,000 enrollments. This is strong performance, and I believe it's not only an indicator of market demand but also of our potential to grow in future years.

Now as I review of our performance, I see a number of factors that drove enrollment levels. First, we saw an increase in student reregistration rate. In fact, this is the highest reregistration rate in 4 years. This year's reregistration effort started earlier and included an enhanced framework designed to provide families the information they needed to make well-informed decisions. The outreach included e-mail campaigns, parent information sessions and personalized follow-up.

Second, we saw strong demand from our more recently launched states. As we have detailed previously, in states in which a full-time online school option has been offered for at least 10 years, market penetration seems to flatten at around 2% to 3% of the eligible student population. In lower penetration states such as Florida, North Carolina, Alabama and Virginia, we saw a strong enrollment growth in the current year and judging from our experience in our more mature markets, we believe this demand should continue for a number of years to come.

Third, our diversification efforts within our Managed Programs are also paying early dividends. Specifically, we saw over 70% growth in enrollment for our Career Technical Education or CTE programs. As part of our most recent expansion plans, one of our largest partners, Ohio Virtual Academy opened a new CTE program this back-to-school season. Now obviously, we're still in the early stages with these programs. However, we believe CTE offers a significant market expansion opportunity for K12.

Not only does it allow us to expand with a new offering, early indications are that students enrolled in our CTE programs and courses tend to stay enrolled longer. Most importantly, more students come out prepared for employment and ready to fill much-needed entry-level employment openings or better prepared for post-secondary education. We will continue to grow the number and size of these programs during the current fiscal year.

We were also encouraged by our operational performance during the recent back-to-school season and what that portends for student retentions for fiscal '18. We resolved the problems we experienced last year well before the '17-'18 back-to-school season was even underway. Also, we further refined our Students First program with particular focus on the student onboarding process, ensuring families had the support they needed to get off to a strong start at the beginning of the school year.

The results of our efforts had an immediate impact with fewer customer care calls and a 7% improvement in overall satisfaction rates from the families we served. The improved family and student launch experience is critical to helping drive improved retention and enrollment levels throughout the year, which also should positively influence both student academic outcomes and our financial results.

Keep in mind that about 2/3 of our partner schools are funded by mechanisms other than a single fall semester count day, instead taking into account enrollment and/or attendance level throughout the school year. In-year student retention is impactful to not only our current year financial but could also result in higher ending enrollment level that in turn could drive stronger revenue growth for fiscal '19 and beyond.

Going forward, we believe that enrollment in Managed Public School Programs should increase. While in any given year, we will face some headwinds, we believe that there is increasing demand to support growth over the long term. To that end, we are working closely with potential partners in states like Missouri, New York and West Virginia, to help bring entirely new offerings to students. While these efforts may take some time to develop and ramp, we believe the demand for additional educational choice by students and families will increase over the long term.

Turning to our Institutional Business, FuelEd. We are disappointed that this business is going to materially decline this year. This does not change our longer-term view and prospects for this business as we see digital education solutions gaining steam and transforming the classroom. And increasingly, teachers, parents and students are embracing this evolution with enthusiasm. School districts are increasing their spend on educational hardware, software and online learning solutions, and are ramping up the use of these digital tools for new instructional approaches and to provide a more personalized and mobile learning experience.

However, while we believe in the long-term revenue potential for this business, as we said previously, we need to reset our strategy, approach and execution. We are unfortunately expecting revenues to decline about 15% this fiscal year due to several factors.

First and foremost, as we discussed in previous quarters, our sales execution has not been as effective as it needs to be. And as a result, new sales, especially during the recent summer selling season have slowed. While we have changed leadership and honed our go-to-market strategy, the new team was not in place in time to impact this year's selling season causing us to fall short of our expectations for fiscal '18.

That said, the team is ramping up, and we will look for improved results in fiscal '19.

Second, non-managed enrollments came in nearly 14% lower year-over-year giving back to gains we made in fiscal '17. This resulted from the loss of one significant partner program, along with an enrollment shortfall from another large program. It's worth noting though that K12 does not provide marketing and enrollment services for many of our non-managed schools.

Again, over the long term, we expect FuelEd to be well positioned to grow again as the nation's schools shift to digital learning options. We will continue to invest in this business going forward. In Private Pay, we also continue to see the long-term potential for this business. We're actively working on international partnerships in the Asia-Pacific and Latin America regions, where we hope to leverage our core curriculum and capabilities to deliver unique in-country education solutions.

Domestically, we're looking to expand our Private Pay options for adult learners as well as expanding our Private Pay CTE offering to the marketplace. However, much of this activity is in the early stages and will not have a material effect on current year results. As such, we expect current fiscal year Private Pay revenue to be relatively flat. Taken in total for fiscal 2018, we expect total revenues in the range of $890 million to $910 million, which is a modest increase over fiscal '17. I am most pleased by the fact that the core business of Managed Public School, which makes up the vast majority of our revenue is healthy and growing.

Now turning to our overall company profitability. We continue to focus on driving greater efficiencies across the business. This includes streamlining and automating processes, enhancing back-end systems and reducing our cost structure, while continuing to invest in student academic programs, training and support initiatives for our teachers and school leaders and growth opportunities like CTE.

A perfect example of our continuing investment in teachers and academic outcomes is this week's announcement of our landmark partnership with Southern New Hampshire University, a highly innovative leader in online higher education. This partnership will include the development of a customized competency-based masters in education degree with a unique focus on K12 Virtual Instruction. This masters program will be offered in either a free or highly subsidized fashion to affiliated K12 educators. The SNHU partnership will also create foundational professional development programs for our own K12 and partner school boards' teaching staff, including a series of stackable training modules and micro credentials to update and strengthen teacher skills.

We are very excited about this program and what it will mean to teachers and students in the years to come.

Taken in total for fiscal 2018, we expect adjusted operating income in the range of $46 million to $50 million. Regarding capital expenditures, we will complement our activities across the organization by focusing our investments in areas that help drive stronger student outcomes. This will include leveraging the wealth of assets at K12's disposal and continuing a multiyear program to refresh our catalog to make it even more compelling, adaptive and engaging. As part of this effort, we're integrating the Stride practice and test readiness platform, which we acquired last year into our core online learning platform.

Similarly, we are pleased to announce the recent acquisition of Big Universe, a state-of-the-art SaaS-based K12 digital literacy platform. Big Universe offers a rich, engaging reading experience with over 11,000 e-book titles, including Spanish bilingual books from more than 40 publishers. The product includes embedded assessments, a student recommendation engine, analytics to demonstrate reading growth and engaging reading practice opportunities.

While the revenue from this acquisition is modest, we are very bullish about both the opportunity to leverage this asset to improve our core Managed Public School student experience and to improve the FuelEd product offering for school districts. We will look to integrate the Big Universe platform into Managed Public Schools elementary core curriculum with the objective of improving learning outcomes by making highly engaging reading practice an essential part of K12's core learning model. Big Universe has found that students who read high-interest literature at appropriate readability levels are more motivated and engaged, ultimately leading to a love of reading, learning and improved educational outcomes.

Also going forward, FuelEd will be the exclusive distributor for Big Universe in the public and private school markets. Across Big Universe, Stride, LearnBop and all of the products used in both Managed Programs and FuelEd offerings, we are creating a unified user experience that directly supports student outcomes and retention.

As we did last year, we will continue to focus on greater efficiency in how we create these products, which allows us to hold down total capital outlays. This translates into guidance on capital expenditures of $43 million to $47 million for fiscal '18.

Now, one last but very important announcement. I'm very pleased to share that Kevin Chavous will be joining K12 on November 8 as President of our Academics, Policy and Schools Group. This brings into one group the team that drives the development of new schools, establishes and monitors school academic policy and performance and day-to-day operations of all managed schools.

Kevin is a noted education reform leader with a well-chronicled track record of driving change and opportunity for all children of all backgrounds and circumstances. Kevin has worked to advance parent choice programs around the nation, most notably as the Education Committee chair of the Council of the District of Columbia in which he helped shape innovative new educational models in the nation's capital. Kevin has always placed children at the center working across the aisle as both the founder of Democrats for Education Reform and as a founding board member of the American Federation for Children. Not only has Kevin been a member of the K12 Board of Directors, but also the first chairperson of the K12-founded and supported Foundation for Blended and Online Learning, which awards scholarships to students from all blended and online schools across the nation and encourages the development of teacher training in blended schools.

Additionally, Kevin is an accomplished author, having published Serving our Children: Charter Schools and the Reform of American Public Education; Voices of Determination: Children that Defy the Odds; and Building a Learning Culture in America. Importantly, Kevin has worked to advance charter school and parental choice programs in a host of jurisdictions around the country and is a leading national advocate for educational and parent choice.

We are quite fortunate to have the opportunity to add Kevin to an already strong and tenured team. His depth of experience and attention for innovation and education, paired with an already strong K12 team should speed innovation and change across the organization, especially in our support of student academic outcomes.

In this new capacity, Kevin will be exiting the K12 Board of Directors. In closing, we are encouraged by the continued growth in our core Managed Public School business. We believe that demand for digital educational solutions will continue to increase over time, which will translate into growth for all of our business segments. We are focused on working closely with teachers, school board partners and districts, to support improved academic outcomes for all the students we serve. We believe this focus will deliver consistent revenue and earnings growth as well as increase shareholder value over the long term.

Thanks very much, and I will now hand the call over to James to review first quarter results in more detail as well as our second quarter guidance. James?

Thank you, Stuart, and good afternoon. Turning to our results. Revenue for the quarter was $228.8 million, marginally lower than the $229.1 million from the prior year. Increased revenue on our Managed Public School Programs were offset by declines in the institutional Private Pay businesses.

Revenue for Managed Public School Programs increased 2.1% compared to the year-ago quarter to $188.5 million. The increase was largely the result of the 2.4% increase in the student enrollments somewhat offset by lower revenue per enrollment. School mix was the primary driver of the lower revenue per enrollment.

I also want to reiterate some of the comments Stuart made regarding how our jumping off point for the enrollment season this fiscal year was actually lower than the previous year [yet] we still posted higher enrollments. Specifically, we ended fiscal '16 with Q4 enrollments of 98,400, and then grew to a count day enrollment of 108,500 or approximately 10% growth. In comparison, we ended fiscal '17 with Q4 enrollments of 97,400 or Stuart mentioned a 1,000 less than the previous year and grew to a count date enrollment number of 111,100 or about 14% growth. So while we saw 2% year-over-year count date enrollment growth, we saw 4% -- a 4-point growth in performance from our account at the prior end of school year. This reinforces our view that demand for our programs remains strong, and we believe bodes well for future growth.

While we may face headwinds in any given year, we believe that this demand coupled with continued improvements to student retention, which we should see this year compared to last year can translate into solid and improving enrollment in revenue growth for our core business in fiscal '19 and beyond.

In terms of revenue per enrollment, we continue to see a positive overall per-pupil funding environment continuing through fiscal '18. However, our revenue per enrollment will be somewhat pressured by school mix. That mix stems from indexing a bit more in newer states with below average revenue per enrollment.

For the current year, given our mix and the current climate, we believe per-pupil funding levels will on average be flat to up 1%. In our Institutional Business, which includes both non-managed public school programs as well as our Institutional Software and Services, revenues declined 10.6% on a year-over-year basis.

Non-managed Public School Program revenues decreased 6.2% as a result of enrollments declining 13.7%. Institutional Software and Services revenues declined 15.7% as a result of softer sales. As Stuart has already highlighted, we continue to see strong demand in the market and have made the personnel and structural changes to leverage the FuelEd portfolio to drive growth in future periods. However, for the current year, institutional revenues will fall 15% plus or minus.

In our Private Pay business, revenues declined from $10.3 million in the first quarter of fiscal '17 to $9.7 million in the first quarter of fiscal '18. The decline year-over-year is largely a result of some depressed conversion in our enrollment season driven by some operating issues that we have since addressed. We have now seen conversion rates bounce back and expect sales to stabilize for the remainder of the year, and we would expect year-over-year revenues to be about flattish for the year.

Gross margins were 35.6% in the quarter, down 150 basis points compared to the year-ago quarter. The decline in the institutional revenues will drive down gross margins for the quarter and the full year. And we expect gross margins to be lower year-over-year by between 100 and 200 basis points.

Selling, administrative and other expenses decreased 7.9% for the quarter to $96.3 million, driven by a continued focus on cost control. And as a reminder, Q1 is our seasonally highest quarter, and these costs will sequentially drop next quarter in a manner consistent with the prior year. While we continue to face some inflationary pressures I mentioned last year, we continue to work to offset this by finding ways to allocate our dollars more effectively and efficiently. As you can see, we achieved that in the first quarter by posting an improved loss on flat revenue even as gross margins shrank.

And we are focusing our resources on the most critical investments, including programs that address student academic and retention, outcomes, training and support initiatives for our teachers and school leaders, such as the Southern New Hampshire University initiative Stu mentioned and targeted growth areas such as CTE.

Moving to product development expenses for the quarter, expenditures were basically flat year-over-year at $2.9 million. And for the full year, these costs should be at or slightly lower than the prior year. EBITDA for the quarter was $2.9 million compared to an EBITDA loss of $5 million in the first quarter of last year. And adjusted EBITDA for the quarter was $6 million compared to an adjusted EBITDA loss of $0.3 million in the first quarter of last year.

I want to point out that our baseline -- stock-based compensation expense for fiscal 2018 will be approximately $18 million. In addition, as we discussed last year, we have some performance-based stock compensation which has the potential to impact this year and could translate into some incremental variability in stock-based compensation potentially as early as the second or third quarter depending on when the performance metrics are likely to be met. This could result in incremental stock-based comp expense of up to $5 million to $8 million for the year. And since stock-based compensation could be impacted in this way, we have provided guidance for adjusted operating income, which excludes stock-based comp, and thus provides a clearer picture of our underlying operating performance.

For the quarter, our loss from operations was $17.8 million or $4.9 million less than the prior year loss. And this improvement was driven by lower operating expenses in the quarter.

Adjusted loss from operations was $14.7 million compared to $18 million loss in the prior year.

Turning to some other items, we ended the quarter with cash and equivalents of $147.3 million, a decline of $83.6 million compared to the fourth quarter. And this decrease is the result of normal seasonal trends and we would expect to see our cash balance increase throughout the year. CapEx, which includes curriculum and software development and infrastructure was $15.5 million, an increase of $1.5 million compared to last year. And this is really the result of increased investment in IT hardware and leasehold improvements to consolidate facilities, which were somewhat offset by lower curriculum investments.

For the year, as Stuart said, we expect to invest in the range of $43 million to $47 million. This outlook is in line with our previous communication to begin to taper capital outlay and drive increased free cash flow over the long term. Our effective tax rate for the quarter was 53.4% compared to 38.9% in the year-ago quarter. The current rate for the quarter includes a benefit from adopting a new accounting standard related to stock-based compensation. Without adoption of the new accounting standard, our effective tax rate for the quarter would have been in line with last year's quarter.

We could potentially see quarterly fluctuations throughout the year, as a result of adopting this new standard as it depends upon the underlying employee vesting in exercise activity as well as future stock prices. Therefore, it's not something we can predict. So we will provide guidance excluding the impact of discounting and report out each quarter the impact of the new standard has on the tax rate.

Now let me summarize our guidance again for fiscal '18. Revenue between $890 million and $910 million. CapEx between $43 million and $47 million. A tax rate of 38% to 40%, excluding the adoption of the new accounting. And adjusted operating income in the range of $46 million to $50 million. And for the second quarter, revenue in the range of $217 million to $223 million. CapEx of between $8 million and $10 million, and adjusted operating in the range of $17 million to $20 million.

Thank you for your support. And I think, we're ready for any questions. Operator?

(Operator Instructions) Our first question comes from Jeff Silber with BMO Capital Markets.

Just a question on the enrollment side. I know in prior years, maybe it was just last year, we saw a shift in the type of contracts from non -- from managed to non-managed that impacted the enrollment accounts on each line item. Was there anything like that this year? Or is this kind of an apples-to-apples comparison?

Yes. Thanks for the question, Jeff. This is pretty much an apples-to-apples comparison. There wasn't really anything that shifted between the categories year-over-year.

Okay, great. And then, in looking at Non-managed Programs, obviously, you had the large enrollment drop yet revenues per average enrollment went up substantially. Can you give us a little bit more color what's going on there specifically? And is that something that should continue throughout the remainder of the year?

Yes. We had a pretty good mix within our client base. And obviously, we're trying to mix into clients that are more profitable for us. We provide a little bit more for them. As Stuart mentioned, we have -- we don't provide the marketing services for all our clients. So where we can provide them, that will give us a higher per-enrollment revenue mix because we do charge for many of those. So overall, I think, that there was just a little bit of a better mix. I think what you will see for the year, to your other question, I think, is a similar trajectory of year-over-year revenue per enrollment. So as you know, it sort of -- it dipped down in the fourth quarter but on the year-over-year basis, we should see something similar throughout the year.

Okay, great. That's helpful. Now I know intra-quarter, I believe, you had some disclosure about -- or maybe I don't know if you disclosed it or if it was in the press, the papers about issues in one of your schools in Indiana. I was hoping you can address that for us.

Sure. Yes, we had some issues in the Hoosier Academy in Indiana, which the board has elected not to pursue a renewal of the charter, which expires at the end of this year. So it's not a matter of the school being closed, but they decided not to pursue the charter. Now the board still maintains 2 other charters in the state, and we did launch an entirely new school in the state of Indiana this year. So as we move through this year into the next back-to-school season, we will once -- we will have 3 schools up and running. Right now, we have 4 in the interim. But the steady state has been 3 schools in Indiana, and we will enter next school year with 3 schools as well. So we have other ways to continue to serve the students in the state of Indiana.

Okay. And then just one follow-up -- final question. You mentioned your CTE programs, how large are those right now?

So we don't disclose -- they're pretty small. I think, over the past couple of years, we said we were just really entering them last year. They were just at a few schools, we just had a few programs. We didn't really mark heavy to them. We're still getting our sea legs. We saw -- Stuart said -- strong growth, but they're not material to the overall numbers. But the trajectory that we see both in the acquisition side and the retention side, as Stuart mentioned, are very promising. And we look to further invest through this year and into next year.

And are they any different than your regular programs in terms of either revenue per student or potential profitability?

They're not materially different. We are looking at opportunities to capture some additional revenue in certain states where there are CTE-specific funds available and things like that. But for right now, they are not materially different.

Our next question comes from Alex Paris with Barrington Research.

This is Chris Howe sitting on for Alex. I was just wondering if you can provide some additional color on the Southern New Hampshire University partnership. Kind of how it came about, and maybe the difficulty in obtaining this partnership, and what should be our expectations for a similar type of partnership moving forward?

Well, we think they are a highly unique partner, but they are certainly one of the leaders and the fastest-growing online post-secondary institution in the country. They are known for a very high-quality program and one of the things that makes them highly unique is that they are both project-based and competency-based. So that's very different than just about every other graduate education program in the country. The other thing that makes it unique is that they're building it alongside us, so we're going to be working together, we're starting with an anthropological study, where they will be observing our teachers, teaching in their natural habitat in their houses. We're also going to have a lab up at Southern New Hampshire for a little bit to study exactly what great -- what the characteristics of great online teachers look like. And the program is also unique in that it will be interweaved with K12's training program that we have in place for all teachers. So we are building the program collaboratively in 3 pieces. The first module will be a series of training modules that roughly all 5,000 or so of our teachers will go through as part of their core training program. The second piece stacked on top will be a micro credential, so students will effectively get a badge for completing it, which K12 will administer. And the third component will be the opportunity for teachers to finish their graduate education with Southern New Hampshire, and they will have the ability to take that second piece, the micro credential and roll it in for credits into the Masters of Education program. So it's a very integrated program with our own internal training system. We will provide it, as I said on either highly subsidized or potentially even free basis for our teachers because we believe with assuredness that the better we train our teachers in a customized program to teach in an online teaching environment, which -- it's really hard to be a great teacher. It's even harder to be a great teacher online, and we're building a customized program to teach that. But the bet is -- and the bet is that these better-trained teachers will be more engaged teachers, create better engagement with students and ultimately, better retention and financial results as a byproduct of doing the right things for kids. So we see nothing like this in the marketplace. We think there is a revolution needed in graduate masters of education programs and we have -- we think the only really terrific partner in the country to go build that with.

That's very helpful. And then just following up on your comments on Big Universe going into Spanish bilingual. Is that an area of interest moving forward? Is this just the beginning? Should the growth in FuelEd be expected organically? Or is there a pipeline of opportunities that you see on the horizon?

Well, it's a terrific little product and program that has been getting absolutely fantastic results, and it's not rocket science. If we give kids great books -- really engaging, full-color literature that high-interest level, they get to pick, you want to go read 5 books in a row on butterflies, you can do that. That students will engage in reading, and we can measure their reading practice more carefully. We know that leads to better outcomes of all size, not just in reading, but in other subject areas. Now Big Universe is a fairly modest in terms of scale right now. They've got a very small but loyal customer base in K12 school. But the opportunity for Big Universe for us is really twofold. On one hand, we will take that platform and fully integrate it with our core Managed Public School platform so that reading practice will be taken to, particularly for elementary kids, to a much -- to a newer and much more engaging level. And secondly, we will distribute that product through Fuel Education to public -- mostly public and even private school systems across the United States. So that's the plans we have for it. We think it has significant potential as a standalone product and really important purpose for us in our core Managed Public School Program.

(Operator Instructions) Our next question comes from Corey Greendale from First Analysis.

So a few questions on the managed enrollment, so given that you've resolved the retention issue last year, the comps get easier. So, any way you can give us a sense of like -- I'm assuming, I mean, the year-over-year growth could improve in the year -- do you think you could get up to kind of mid-single-digit growth by the end of the year? Or what are your thoughts on that?

Yes. I think, Corey, maybe the best comp, if you will, to look at is you might remember in fiscal '16, we had a really good retention year. It sort of provided a [slightly] different arc of quarter-to-quarter-to-quarter enrollments throughout the year than we had seen in years prior to that. And all things being equal, we think we could do something similar this year, get back to those retention levels [even] Made it a little bit better. So probably, it doesn't get you quite to the mid-single digits, but it certainly gets you some improvement throughout the year.

Okay. That's helpful. And then on the non-managed enrollment, can you just elaborate a little bit on, I think, you mentioned one school didn't renew and then another had some issues. Can you say anything more about those 2 schools?

Well, we typically don't disclose who particularly lost clients are. But we did have one significant charter school operator that decided to move in a different direction. And we -- as we've said, we had -- one of our larger non-managed partners who declined a little bit on a year-over-year basis. And in aggregate was obviously pretty significant. But you haven't quite asked the question this way. On top of it, we did have sales execution problems, as you know, because we've shared on the prior call, Sean Ryan is in place as the new General Manager of Fuel Education and he has been in the process of strengthening his team. So we feel optimistic about the future. We know the market is there, and we have the responsibility for executing better, particularly, from a sales perspective on a forward basis.

And the one that didn't renew, did they go to a competitor or they're doing it themselves?

I'm not particularly certain. But I don't believe it was to the loss of a competitor. They are a program that uses multiple products and, I think, just dropped us for whatever reason, I'm not quite sure.

Okay. If we look at the enrollment pattern in the non-managed enrollment pattern in fiscal '17, is the enrollment up sequentially as the year went on, which I think is pretty unusual? Is there any reason to think that could happen this year? Should we expect that this to be a high watermark for the year?

Yes. I think I'll say sort of, again, fiscal '16 is probably a little bit better barometer of how the enrollment trend might look this year. I don't think we're probably -- we're going to get the type of, like you said, last year was a little bit unusual. There was a couple of very particular situations that happened last year, which I don't think are going to recur this year. So '16 is probably a more likely type of trajectory.

Okay. And then James, I actually had a question for you about the Q2 guidance. So if you look at the quarter you just reported, revenue was sort of basically flat year-over-year, right? The adjusted operating loss got better. So less of a lot this year than last year. The guidance is more or less for flat revenue in Q2, but it's a less good guidance on the adjusted operating income relative to last year. So what accounts for the year-over-year weak when it was basically, when it was better in Q1?

Yes. Some of it is just -- some of it's timing. There's an accounting thing that happened during the course of the quarter. There really wasn't anything too structural in that. We did do -- we have some higher seasonality in costs and so we were a little bit tighter this quarter that we're really more efficient because I think we just -- we actually -- I think our results are pretty good. But we did it with a little bit less. So, I think, we were a little more efficient. But nothing really of note other than that. So nothing out of the ordinary, if you will.

And is it fair to say this is kind of implied in the guidance, but just to be clear, if the managed enrollment can get better, the year-over-year comps can get better as the year goes on, it sounds like [if you] have Private Pay, you can get better that -- both top line and bottom line results should get better year-over-year in the back half of the year relative to the first half?

Right.

Our next question comes from Marc Shapiro with Palisade Capital.

This is Marc Shapiro here at Palisade Capital. Just a quick question on the managed school business, you talked about some of the new states and your ability to kind of accelerate growth in managed schools over time. Maybe you can just touch on states like Florida where you've got significant expansion opportunity? And how that may layer into growth over the next couple of years?

Yes, you bet. I mean, Florida is a very exciting state for us. We have been operating with both FuelEd programs and some charter programs that were within district borders. What happened in Florida that was very exciting this year is the state got opened up for open enrollment statewide. So we've been able to use our existing vehicles to improve enrollments in the state [in-year] already in. Suffice it to say, we've had nice growth in Florida this year, and we're working hard to build more capacity there in the years to come. And we don't have any reason to believe, it can't be one of our most significant states over a period of time. The other very significant state that we expanded our work into, we, of course, have at least -- we have a couple non-managed partners in the state of Pennsylvania already, but we did get charter approval to open Insight School of Pennsylvania. So it's the only fully managed program we now have in the state of Pennsylvania. We're off to what we think is a pretty good start there. And we continue to work carefully and closely with our other partners in the state. The Insight School of Pennsylvania will ultimately be somewhat different than the non-managed partners we have in Pennsylvania, in that it will have a CTE flavor to it over time, which allows us to really, we think, optimize that market and get kids with different types of interest into different programs. Some of them, of course, being ours and some of them being partner programs. So that's another state. We obviously know there is very high funding level for students in the state of Pennsylvania, and we are also excited about the opportunity of it being a very mature -- a very established state, I should say, in terms of acceptance of virtual education. Those are 2 significant new opportunities.

As you see momentum growing for kind of the blended solution for students who want more choice, do you see that penetration rate of the student population changing at all, and [if] the market [TAM] today get [year for] companies like yours to address that market than maybe it's been in the past, is there more confidence in that market opportunity than maybe there was in the past?

Yes. We think about blended as an opportunity to try to expand that TAM a bit. So there are folks who want some level of socialization; blended can also play an important role in providing enrichment opportunities. So, for instance, in Nevada, we have an incredible school that provides LEGO and robotics and other kind of science exposure. And in fact, we had the only, I think, 2 years ago, we had the only robotics team in the state to go to the national championship out of that school. We also think blended can play a real role in interventions for kids who need extra help. And we have quite a few blended programs set up across the nation right now and it is an area we'll continue to expand. The opportunity is significant. It also comes with a challenge of figuring out how to provide that as economically as possible. So we continue to work with our partner schools to try to seek out what we think are fair and appropriate funding levels for blended programs.

Markets change. The other opportunity we really do see to expand the market and grow the TAM is the CTE. I mean, well, it's very small for us today. All of our preliminary research and our preliminary acquisition modeling indicates that there's a lot of demand across a lot of states. We're just scratching the surface, and we think that, that could be a pretty material addition to our growth in the years to come.

Yes and that's a market where... I'm sorry, go ahead Marc.

No. Finish up, Stuart, go ahead.

Yes, I was just going to say, I mean, that's an area where we think the mega and macro trends really line up. Last year -- or this year, in the 50 State of the States, 18 governors cited CTE as something that's important to them. We know that business is looking to fill an estimated 5 million to 6 million open middle-skill jobs by the year 2020. And in research that we've done, parent research, we know that parents want their kids to have marketable skills because that can lead to better jobs and opportunity. So the interesting thing about CTE is that it's not the old vocational education that many of us grew up with. It's really an opportunity that's open to both kids who need an alternative and students who are still college-bound but want additional marketable skills and credentials and certification. So we think we have an opportunity. We think the market is significant, and we have the opportunity to help expand it by telling the story.

Yes. I was just going to ask you, Stuart, whether this is a business that you grow organically? And it grow -- you basically expand over several years? Or are there other inorganic opportunities to really accelerate the growth in this business?

I think we certainly have both. So organically, we've been able to already open up 7 academies either in combination with or standing alone. I think that quite a few of our existing Managed Public Schools, will want to open CTE schools within schools over time. We also have the opportunity to open many new ones. On the inorganic side, we are looking as well, although, we probably will be more focused inorganically on content, [place] and other tools that can help those types of students, whether they're career counseling opportunities or opportunities to engage with other types of groups that could be helpful to advance CTE students' career. But we're looking at both is the short answer, Marc.

Okay. And just one last question on Institutional Business. How quickly do you think -- how long you think it will take to turn that business around? Obviously, we've missed the window this year. Do you expect to get back to growth next year in that business?

We do. We do. I think that's the only acceptable answer for us, and we do feel like we have a pretty good understanding of the issues. We've been working hard on sales execution, really bifurcating our sales channel strategy. On an inside sales basis, we're selling lot more of our transactional products. And the outside team, we're training up to sell more -- in more consultative fashion, really higher level, higher ticket complex implementations, which we think we're uniquely qualified to do because we're really one of the only players in the marketplace that offers an instructional component, which means the turnkey solution. So it's -- we have the ability to do it. Our expectation is that we will be back to growth by 2019.

Okay. I was just wondering, thinking to myself that with the managed school business seeming to gain momentum and the outlook there improving, whether -- how long of a lease do you have on this business before you decide whether this is something core to K12 over the long term?

Yes. It is a fair question. My perspective is, this is a business that should be multiples bigger than it is. We have to figure out how to get there. But clearly, we're enthused about the continued growth in Managed Public Schools. And frankly, when we just do the mathematical exercise around if we have the ability to improve retention this year to the levels we think we can in Managed Public School and then continue to execute against moderate growth as we have this selling season with Managed Public School, we think we could have some pretty good out years if things come together the right way. So that's just kind of a mathematical opportunity for us.

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

Once again, thank you, everyone, for joining us this quarter. We greatly appreciate you being here, and we look forward to reporting to you in about 90 days or so. Take care now.

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