2U Inc (TWOU) 2016 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the 2U Incorporated fourth-quarter employer earnings call.

(Operator Instructions)

I would now like to introduce your host for today's conference, Mr. Ed Goodwin, Vice President of Investor Relations. Sir, you may begin.

Thank you, operator. Good afternoon, everyone, and welcome to 2U's fourth-quarter and full-year earnings conference call. By now you should have received a copy of the earnings release for the Company's fourth-quarter and full-year 2016 results. If you have not, a copy is on our website www.investor.2U.com. The recorded webcast of this call will be available Investor Relations of our website. Also we routinely (inaudible) on our website which we encourage you to access and make use of. Today's speakers are Chip Paucek, our CEO and Co-Founder, and Cathy Graham, our CFO.

During today's call we may make forward-looking statements including statements regarding the Company's future financial and operating results future market conditions in the plans and objectives of management for future operations. These forward-looking statements are not historical facts but rather are based on our current expectations and beliefs and are based on information currently available to us. The outcome of the events described in the forward-looking statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from the results anticipated by these forward-looking statements.

This includes but is not limited to those risks contained in the Risk Factors section of the Company's Annual Report on Form10-K for the year ended December 31, 2015 and other reports filed with the SEC. All information provided in this call is as of today except as required by law we undertake no obligation to update publicly any forward-looking statements made on this call to conform to statements or actual results or changes in our expectations. Also, it is 2U's policy not to update our financial guidance other than public communications.

Non-GAAP financial measures discussed during this call are reconciled to the most directly comparable GAAP measures in the tables attached to our press release.

I would now like to call over to Chip.

Thanks Eddie. 2U had a fantastic 2016; the entire 2U story is driven by high quality student outcomes. Students exceeding drives our University partners' success which in turn drives 2U.

While were delivering for our University partners and it's driving our results. Fourth quarter capped off another great year for 2U in all of its financial measures. Revenue for Q4 was $57.4 million contributing to total revenue of $205.9 million for 2016, a 37 % improvement over 2015. On the bottom line adjusted EBITDA was $4.5 million for the quarter and year an improvement of approximately seven percentage points in margin over all of last year and I'm happy to report that 2016 was the first time in 2U's history that the Company was adjusted EBITDA profitable for the full year.

To give you a sense of how far we've come, when we went public in March 2014 the adjusted EBITDA margin for the full-year 2013 was negative 26%. Now, the close of 2016 showed a 2% adjusted EBITDA margin a pretty vast improvement and that's with revenue growth well above our 30% target. We believe we can indeed keep revenue growth rate above 2% for the foreseeable future.

For some additional color, this time of year we give you our cohort margins and our top-10 list of annual enrollment. These metrics help show what is happening in our [mob]. First let's talk cohort margins which you can find in the back of our press release.

These indicate the inherent profitability in the model over time given the lag that exists between marketing spend and revenue when looking at the Company's whole financials. But on a cohort basis you can see more of what's happening to profitability. Three years ago, we told you that you could model profitability by lining the first four programs up at time zero and adding a little forecast to that.

We don't have to do any that now. Time is this models friend. Programs take time to retire enrollment and remember students don't enroll in the top program on a lark and it is our job not to just find any student but the right student.

So each launch cohort has a lag to it. It takes until years five or six for programs to reach steady-state enrollment and even then takes a bit longer for steady-state financials. This is all difficult to describe the new public Company three years ago and now we have enough programs with enough operating history just to show you.

Programs operating for more than four years are those approaching steady state financially which in this case is composed of our core four original programs showed a 36% adjusted EBITDA margin; that's higher than we targeted. Those operating in three to four years; this case our 2013 cohort showed 18%. This is better than where Cathy told you it would be.

And the 2014 cohort of programs or those operating two to three years is at negative 6% or moving darn close to breakeven. This is right where we told you it would be. Remember, these are all fully allocated. We gave you a model three years ago and told you this would happen and now you're seeing it in our financial results.

Now let's talk about the size and start with the top-10 list. Our top 10 ranks our programs by new program enrollment. Enrollment is a precursor to revenue.

This can give you lots of color as to what is happening in the system. MPV is the story here or our multiple program vertical strategy. Each of our verticals with multiple programs launched are represented on the list: nursing, social work, business and [data times].

When we add a new program in the vertical where we have one or more programs already launched, we see new students in the subsequent program grant more quickly than what we typically see for first program in the vertical. We believe this is evidenced by MBA Syracuse moving to third and Business in America entering the list; both were 2015 MPV programs, both now show in the top 10.

But MPV also drives enrollment for the first program launched in the vertical. Each first program in an MPV remain on the top-10 list and MBA UNC actually moved up a spot. Moving forward, we'll continue to balance launching programs in new verticals with programs in existing verticals.

After all you can't watch a second and to you have a first. And there are lots of firsts left for us to cover. So the top-10 list gives us a good look into the power of MPV which has been good for everyone involved.

Students have more options, we're converting more of our marketing spend and we're building something big here. At the time of this call, our University partners just passed $1.5 billion in attrition adjusted tuition since inception. 2U is doing digital education at scale.

So our models [have] time to prove but it's really starting to show in our results both on a cohort level and Companywide. That is exciting. Now let's briefly talk about pipeline.

It's very strong and our announcements prove it. This month we finalized our 2017 launch schedule for 10 new programs. This is one more than we told you about the beginning of last year, four more than in 2016 and we slotted and announced everything well before we did last year even with the larger number.

We believe that the 2017 launch cohort will prove to be one of the most balanced launch cohorts in our history. Four programs are in new degree verticals and six are in multiple program verticals. In fact, four will create new MPV's.

There's also nice geographic diversity among the universities with programs on the East Coast, in the Midwest, and on the West Coast. We're excited to welcome three new University partners: Pepperdine, Dayton and Vanderbilt. One additional point regarding pipeline, last quarter we mentioned we had a signed program that was not (inaudible).

Due to a variety of unique factors outside of our control it turns out that we'll not be moving forward with that program. Now I can't go into specifics but I can tell you the program was signed with an existing partner, there was leadership change and a decision was subsequently made not to move forward with an online program at all. In hindsight, [signed in] not announced is not how we'll handle these things going forward there are so many moving parts that we think it is better just to announce when we are ready.

Ultimately, what should matter to you is that we have enough to make our target the slotted 2017 cohort prove that to be a [strong], yet 10 all announced ahead of schedule. And yes, we also like where we are for our 2018 commitment.

Expect more announcements in the coming months; we've got new verticals, new universities and deeper commitments from existing partners. I'm now going to pass it to Cathy to highlight what an excellent year we had.

Thanks Chip, while our financial performance for fourth-quarter and full-year 2016 largely speaks for itself, I'd like to give you some color of these results before turning to her view to the future.

We closed out 2016 by again delivering significant year-over-year revenue growth. At $57.4 million for the fourth quarter and $205.9 million for the full year, revenues exceeded the prior-year periods by 33% and 37% respectively. As is typical, revenue growth in both periods was driven primarily by increases in full-course equivalence.

For the fourth quarter, [FCE] showed year-over-year increase of 31% enhanced slightly by a 1% increase in average revenue per FCE. For the full year, FCE increased by 36% year over year, also enhanced by a 1% increase in average revenue for FCE.

FCE increases were generated across our program portfolio. But as our business model projects, the largest percentage increases were from programs in their first three years of operations. If we expand our portfolio with an increasing number of program launches at new and existing partners are FCE and revenue basis continue to rapidly diversify. Our earnings measures net loss, adjusted net loss and adjusted EBITDA each show year-over-year dollar and margin improvements.

At $2.2 million, fourth quarter year-over-year net loss improved by $1.2 million and the corresponding net loss margin improved by four percentage points to 4%. For the full year, our $20.7 million net loss shows year-over-year improvement of $6 million and net loss margin improved by eight percentage points to 10%. On a per-share basis, fourth-quarter net loss improved to $0.05 from $0.07 in the prior-year period. And full-year net loss improved to $0.44 from $0.63 in the prior-year period.

After adjusting for $4.2 million in non-cash stock-based compensation expense, fourth-quarter adjusted net income was $2 million or 4% of revenue. This represented a $2.1 million and four percentage point year-over-year improvement to adjusted net income and adjusted net income margin respectively.

Adjusted net income per share improved to $0.04 from $0.0 in the prior-year period. Remember that fourth-quarter is typically our highest margin quarter and being positive here does not mean that all subsequent quarters will be positive however reaching this milestone is a meaningful indicator that we remain on the path to achieving profitability across our earnings measures.

For the full year, adjusting for $15.8 million is non-cash stock-based compensation expense adjusted net loss was $4.9 million or 2% of revenue. This represented a $9.4 million and seven percentage point year-over-year improvement to adjusted net loss and adjusted net loss margin respectively. Adjusted net loss per share improved to $0.10 from $0.34 in the prior year. Note that we continue to see meaningful year-over-year stock-based compensation expense increases which should remain the case through the first-quarter 2018.

At that time, the first grants made under an annual grant framework put in place prior to our March 2014 IPO will have completed their four-year vesting cycle and stock compensation expense increases should moderate. After a further net adjustment of $2.5 million consisting of depreciation for [organization]expense offset slightly by an immaterial of net interest income, fourth-quarter adjusted EBITDA was $4.5 million or 8% of revenue. This represented a $2.7 million improvement in adjusted EBITDA and a four percentage point improvement in adjusted EBITDA margin over the prior-year period.

For the full year, after a further net adjustment of $9.4 million adjusted EBITDA was $4.5 million or 2% of revenue. This represented an $11.2 million improvement in adjusted EBITDA and a seven percentage point improvement in adjusted EBITDA margin over the prior year.

As we did last year at this time, we have provided for 2016 fully allocated adjusted EBITDA margins at the launch cohort level. Programs that have been operating for four years or more have an adjusted EBITDA margin of 36%. This launch cohort consists of the four programs we launched prior to 2012 and their adjusted EBITDA margin represents a nine percentage point improvement from the 27% margin we reported for this group in the prior year. Remember, that we expect programs will achieve an average adjusted EBITDA margin in the mid-30%s range with first programs in the degree vertical being somewhat lower and subsequent programs being somewhat higher.

As these programs are all first programs in their vertical, we're particularly pleased with how their performing as they reach the mature phase of their program launch verticals. Additionally, our 2013 launch cohort which consists of programs that have been operating for between three and four years had a fully allocated adjusted EBITDA margin of 18% for the year. This represents a 14 percentage point improvement from the 4% margin we reported for this [quarter] in 2015.

Our 2014 launch cohort of programs had an adjusted EBITDA loss of 6% right in the range of what our model would predict for programs operating between two and three years and consistent with what we told you previously about this cohort. That leaves the vast majority of the losses in the Company exactly where you would expect. And programs operating for two years or less which includes costs we have incurred for programs expected to launch in 2017.

These programs had a combined adjusted EBITDA loss margin of 130% corresponding to our period of heaviest net negative cash investment and new program launch in scaling. I'm really pleased that over the last two years we've reached a point where we can provide you with actual data on margins and margin progress across the program maturity timeline.

What we're seeing now strongly validates the typical (inaudible) economic lifecycle we've discussed with you since IPO including our expectation for target steady-state margins and the investment breakeven and return time periods.

From a balance sheet and cash flow perspective, we ended the year with $168.7 million in cash and no outstanding debt. During the fourth quarter and full year we had cash capital expenditures of a $8.4 million and $24.4 million respectively.

Costs we capitalized related to technology and content development were $4.4 million for the quarter and $16.7 million for the year. With the remainder in each period being primarily for costs related to the build-out of facilities to support our growing workforce.

Now expanding on the initial look at 2017 we gave with our third-quarter results, we provided specific first quarter and full-year 2017 guidance. On the top line, we're expecting revenue of between $63.6 million and $64 million for the first quarter and between $267.6 million and $269.8 million for the full year.

At their midpoint, these ranges imply year-over-year growth of 34.4% for the first quarter and 30.5% for the full year. While we have committed to delivering revenue growth rates north of 30% for the foreseeable future these rates will vary from year to year.

While 2016 revenue growth benefited from the 2015 launch (inaudible) calendar that was well distributed across the year and a large program launch in January and was 60% MPV, 2017 is drafting off of 2016 cohort that, while strong, had a back-loaded launch calendar and only one MPV program. Coming off of 37% revenue growth this year it's tempting to think of that as the new normal. But please, don't get ahead of us.

To help you with your quarterly model, the guidance provided in our earnings release states that we currently expect 52% to 53% of our 2017 revenue to be recognized in the second half of the year. Sequentially, revenue should step up from quarter to quarter but because of the timing of 2016 and 2017 program launches, the magnitude of those increases may vary somewhat from the prior year. Compared to the 2016 quarters we expect a smaller percentage step-up between Q1 and Q2 but a larger percentage step-up between Q3 and Q4.

Looking at earnings measures we expect a net loss of between $4.1 million and $3.7 million for the first quarter and between $28 million and $25.6 million for the full year. When comparing these results to prior periods, remember that we made a strategic decision to accelerate the rate at which we launch new programs from six in 2016 to 10 in 2017 and 12-plus in 2018. And, as we have said previously, this increase in the number of programs and their investment stage has the effect of slowing the pace of margin improvement as measured at the adjusted EBITDA level.

At the net-loss level, our expectations that, first, meaningful increases in year-over-year stock based compensation expense will continue to 2018 and, second, that depreciation expense will increase faster than in prior periods because of our recent and expected facility build-outs are offsetting the purposefully smaller expected year-over-year improvement in adjusted EBITDA margin. We expect adjusted net income of between $100,000 and $400,000 for the first quarter and adjusted net loss of between $7.2 million $5.2 million for the full year. Remember that adjusted net income or loss excludes only stock compensation expense but includes depreciation expense and is therefore impacted by most of the factors impacting net income or loss when looking at a year-over-year comparison for results and margins.

We expect adjusted EBITDA of between $2.9 million and $3.2 million for the first quarter and between $8 million and $10 million for the full year of 2017. Adjusted EBITDA excludes the impact of both stock compensation and depreciation so shows year-over-year midpoint guidance improvements for both expected results and the corresponding margins.

To help you further with your quarterly models the guidance provided in our earnings release also states that cost seasonality in both [full year] and fourth quarters impact margin patterns in the first and second halves of the year. I want to remind you that in the second quarter we typically incur a disproportionate amount of annual costs that reduce our earnings measures related to meetings, trainings, graduations and other periodic events. Conversely, we typically reduce our marketing costs during the year-end holiday period which increases earnings measures in the fourth quarter.

Now before I turn the call back to Chip, I want to comment on our capital asset additions for 2016 and our expected capital asset additions for 2017. As we discussed with you before, we are in a period of significant facilities build-out. This week, we moved into our new headquarters in Maryland we've been expanding our facility in Denver and later this year we plan to relocate our New York offices to a new facility in Brooklyn.

As a result, we are temporarily making outsized increases to our capitalized assets for leasehold improvements and other facilities-related costs. In 2016 we added $30.8 million in new capital assets of which $11.7 million or 38% were facilities related. In 2017, we are expecting to add new capitalized assets of between $64 million and $69 million of which 55% to 60% are expected to be facilities related.

By the time we get to 2018 however we expect facilities-related capital asset additions to drop to between 35% and 40% of 2017 levels. At this point, total capital asset increases should return to a normal operating trajectory driven primarily by the capitalized content and (inaudible) to development costs related to an expanding portfolio of new programs. Please consider the depreciation related to this temporary spike in capital asset additions when you update your model.

But enough about depreciation, let's focus on the bigger picture. Fourth-quarter performance capped off a year we're really proud of and we're now looking forward to delivering on the strong operating and financial expectation we set out for 2017. Chip?

Thanks Cathy got to love her. Before I close this out, first one quick note; the top-10 list can be found in the download sections of our Investor page. When I think about our 12 [beat and] raise and our third anniversary of being a public Company I'm proud to say that our model is proving out in our financial results plain as day right in front of you.

But the power of what we are doing is built in the system that's aligned with great universities to help them transform into better digital versions of themselves. Our pipeline is better than ever for a reason. We deliver on the (inaudible) for the world's best online education.

Look at the report issued two days ago by the Christianson Institute that highlights our partnership with Simmons College for a recent bit of evidence; if you haven't seen it, it's really worth the read. Our combination of technology, comprehensive service and data architecture with a really important dose of great culture thrown in has made our Company the market leader. Over time I've really become convinced that the glue between all of these pieces and the coordination of them together is what makes 2U special.

It's hard, it shows up in unexpected places, like how you provide accessibility for those with disabilities from day one of a new program or how you provide local clinical placements on a national scale or how you leverage data to drive better outcomes; just a few examples. All of this is actually quite hard to replicate. Our growing portfolio programs and the bundle that serves their schools is producing data that no one else in higher education can match. We're drawing insights from that data to continually prove improve our programs, each program launch contributes to the improvement of all those launched before it, and those insights enable us to operate in more verticals, enter more regions and expand program offerings.

But the power's actually in the bundle itself. Our comprehensive approach allows universities to deliver great digital education at scale. I intend to ensure we continue to make the bundle better and better over time and that is exactly what we're doing.

Now, I'm open to receive your questions.

(Operator Instructions)

Our first question comes from Michael Nemeroff with Credit Suisse. Your line is now open.

Thanks for taking my questions congratulations on a great quarter and another great year. I want to hammer in a little bit on this cohort finance performance, looking at the comparison to last year and the improvements in the programs greater than 4 years and especially the older ones. Theoretically you said mid- 30%'s is a target for these EBITDA margins and I'm curious can we squeeze out a little bit more than what you told us to anticipate previously? And what should we read into these numbers on a go forward basis? And then I have a follow-up for Chip on the competitive landscape thanks.

Okay, thank you Michael, and the first thing I would say before I turn it Cathy, is we're obviously very pleased with the cohort margins overall. We feel like they are an important part of the story in terms of understanding what is going on inside the system and we have improved tremendously. And of course that original-- the first set of programs is really delivering and it certainly took some time to get there and the performance since IPO is great. With that said, we just want to be cautious going forward, we think we're giving you a reasonable margin expectation.

On the verticals we are entering a lot of new verticals we have, I think, 11 verticals already that we're in that do not have MTB established. We're really we're thinking about the future and certainly don't want expectation to get out sized because we're going to get some that aren't right, we're going to get some that don't see that kind of margin improvement. Cathy.

Yes, so I would agree with Chip, I think the typical program models that we've given you are still our best assumptions. The reality is, we love these numbers but it's the first group of programs that's really moving into maturity. And also remember that behind this cohort there's effectively a gap year of 2012 so we've got, it'll take a lot while for the next group to kind of get to where we're looking at today.

The other thing to remember is that in this group while they are all first programs, they are in multi program -- multiple program verticals and the multiple program vertical as we've talked about helps not only the second program and the third program, but it helps the first program as well and we're seeing some of that. What we don't know yet is how prevalent that is across the entire universe or what it's going to result in. So while we are excited and hopeful we would not encourage anyone to move off of our typical program margin.

That's helpful thanks. And then for Chip, the first thing that I would say is initially when the Company came out they were people that were actually doubting the business model itself and obviously when you show cohorts with margins in the mid-30%s, I think that we put that to rest really nicely. Now the question that comes up is around competition and your ability to get caught to remain competitive and get the pricing that you've been getting longer-term and the rise of competitors in the market. I'm just curious what you think about the market in general as it's changed over the last 3 years?

You know, the first thing I would say is we try to emphasize a little bit and investor day where there is many, many programs that are part of universities and we're (technical difficulty) trying to run them all, not trying to launch of all where one size fits all approach to universities is inherently very challenging thing. Not everyone is program that we believe would result in the kind of business that would be worth pretty heavy investment in the early phase. So the story to you is a group market opportunity, meaning the institutions themselves, both are real important.

Second thing I would say, because there's a lot of market, this is a really big total addressable market. I think it's encouraging more than discouraging that there were more people coming into this the state, when a University launches itself without us, we still see that as a positive for 2U because it puts wind at our back with regards to the notion -- of preconceived notions of online education getting better. So we are starting to prove that this is not going away folks. Right? Like the whole notion of the sleeping giants waking up. Well guess what? They're awake and our partners are proving it, that $1.5 billion in attrition adjusted tuition is a nontrivial number.

So that's part of the reason in my closing comments emphasize the power the bundle that wasn't just talk. We actually really do think that the notion of fee for service providers, they've been around the entire history of 2U. Candidly we actually use different providers in different parts of our portfolio to do different things because ultimately we are aligned with these partners long-term to drive high-quality student outcomes and drive performance for the school. And you know, we'll get there anyway we need to.

So, this isn't about all of our own proprietary code, or having all of our own services, this is all about driving the student (inaudible) the experience as best we can. So, the competitive landscape, are there more three use, four use and five use? Sure honesty were doing better than we ever have, and our pipeline is good as it is for a reason this is getting really good.

Great job, thanks.

Thank you.

Our next question comes from Michael Tarkan with Compass Point. Your line is now open.

Thanks for taking my question. Just drilling down again on the profitability numbers, so with that first cohort, it's tracking higher than you initially thought given that it's us the first program. I guess I'm wondering, is that a function of enrollment being stronger than you had initially predicted, is it that you're getting more synergy? Sort of, what is driving the stronger performance?

Hello Michael, so a couple of things, first of all, as I mentioned, we are -- we're seeing actually these first programs get the benefit of MPV which is keeping in this group their revenue growth actually a little higher than we would have expected of them at this stage.

Right notable that in the top 10 list, which by the way is on the investor page, you saw MBA UNC actually go up. That, I think is what people wouldn't of expected and we're thrilled to see that that program beyond the fact that I'm blissfully getting close to graduation, that program has been with us a long time and we love seeing that really get stronger. We do think that there's a bunch of interesting benefits to MPV along the lines of not the way people immediately thought about it. We do get the benefit of really good sort of broader spend that we can leverage the data to spend very wisely. Even not spending on people that we know we shouldn't spend on. There's a lot of MPV benefit built into that.

There's some other things going on here, I mean some of them are sort of mathematics which is, when we look at that cohort of programs, the more they're very large of for a lot of years they have been carrying a very large percentage of the overhead of the Company when you look at it an allocated basis. The more programs that we add and the more they become a smaller and smaller percentage of our revenue and student base, the more they're taking, probably a share of overhead that is more proportional to what is actually going on in that business.

So, these are some of things that are really making the margins as we see them today a little better than we might have expected. But I'll reiterate what I said previously, which is this is the first group of programs to reach this size and this level of maturity. When we sort of look across our portfolio, we're not yet ready to say in any way we would move off what we think our capable margins would be.

You know and honestly even further, we have an obligation to continue to invest in those programs. That's a big part of the story, is we're not sitting here every day trying to make them more profitable, we're trying to grow those programs for our partners.

Understood, that's helpful. Then, secondly, on the revenue growth, so I know you've talked about a 30% growth number for the foreseeable future and I know we're working off a larger base. As the calendar lays out with 2016 being back-end loaded and 2017 be back-end loaded with a larger number of programs and 2018 being an acceleration. Is it possible, and I know you don't want us to get ahead of ourselves, but is it possible that we could see a potential acceleration off of the 30% as we think about 2019 and 2020, those two years?

Pulling back for second Michael, the first thing, it is important to know is we're thrilled with where we ended up for the calendar year, you know 37% is fantastic. Cathy said it for a reason, we do want people to pay attention to the calendar the way they were back-half, that's real. We started with a big program, they were very evenly spaced, and I said to you guys historically, one of the hardest things to give you clarity on is slotting, like when they are going to launch.

Each one of these is a different situation, they're complicated, I know everybody has 1,000 questions about pipeline, but the reality is getting the slotting -- getting the clarity on the slotting is hard, it's one the reasons we were so thrilled to get the 2017 slotting out before we got the 2016 slotting out, even though there were more of them. So you've got to be cautious with the way you line up against the calendar.

Yes, so, I think our early view is that by the time we get into 2018, the early view is, that may be a little bit better distributed across the calendar which would certainly assist in giving at least some wins at the back for driving acceleration and revenue growth at that point, but it's really too early to tell. What we want you to understand is that these things aren't going to be consistent in one direction or another. We will see them move around by several percentage points year-over-year because of all of the things that we have said and we just want to make sure that you guys are expecting that.

So you know, the moral of the story is highly confident above 30% as we told you and we do feel strongly that can last for the foreseeable future, which I know doesn't give you a specific answer but that doesn't mean only next year.

Thank you.

Our next question comes from Ben McFadden with Pacific Crest Security. Your line is now open.

Good afternoon thanks for taking my questions. I want to start with the 2016 cohort, you mentioned on the call that it is doing well. I was wondering if you could provide just a little bit more color as far as how that fits, I know it's early days, but how that fits relative to kind of what you've seen with these other cohorts, the 2015, the 2014, any additional color there would be great.

Well I mean, you know we group it with 2015 for a reason, right? It's so early. That's the issue, it's just so early then what you can tell from just what they are is that there's a small percentage of MPV that does certainly affect how quickly they scale. We told you in the past that a first program takes longer to ramp, but they're all new verticals.

The reality is most have had their second intake of students and is early days. And just consider at UNC starting with the now famous 2019 the original 2019, it's not like MBA UNC started big, it didn't, it actually took a long time to really get its legs, from an enrollment perspective because we were learning how to market it. So it's just too early to give you a ton of color except for the fact that it's obvious that it's mostly not MPV. But we like what we see.

It's not like were staring anything that we don't like and that's the good news for 2U, there's a lot of verticals. There's a lot of verticals that we think have the combination of being sort of appropriately sized so that our marketing team that is giving us instructions as to which ones to go out using the program selection algorithm, combined with the fact that we get the school side and there's a reception (technical difficulty) institutional helpful. That's all a very important part of the story.

And honestly at the end of the day having programs that drive the kind of outcomes we want for the students. We're not just looking at enrollment numbers we are thinking about ultimately, does this good provide tremendous value for the end users? It's got to, right. So what's nice for 2U, there's a bunch of programs in that category. Every one we launch builds the mode a little bit more because we increase the number of clinical placements and we increased the complexity of what we're dealing with and that's really hard to replicate and we are not intending on slowing down.

Great, and then Cathy, I wanted to switch to kind of the Q1 guide here. Actually on a sequential basis, I believe it was up relative to what we saw last year, I was wondering if you could kind of help us dissect how much of that is a shift in seasonality around when these classes are taking place in the model. I know you have been talking about that for a while that there's going to be a seasonality shift over time, versus the timing of these 2016 program launches.

It is almost all the timing of launches, Ben, the one place you rarely ever see any movement around the start of classes is in the first quarter. You know, it's the only time when -- January is about the only time when every program has a cohort, has an intake of students. So, what you see here is really has far more to do with launch schedules than it does have to do with any moving around.

We did give you some guidance for 2017 about how to think about Q1 to Q2 and then Q3 to Q4. That again is primarily driven by launch timing, but there are some differences in the way the student intakes have laid out from the prior year.

Great. Thank you very much.

Our next question comes from Kerry Rice of Needham & Company. Your line is now open.

Thanks a lot, great quarter. Maybe a couple housekeeping for Cathy and then one for Chip. Cathy, can you -- I'm sure it's disclosed maybe in the 10K which hasn't been published yet, but any update on backlog? And then lifetime revenue per total cost ratio? And then I'll follow up with my next question.

Sure so on backlog, the end of the year was $248 million which is as you would expect down sequentially from the third-quarter. It always happens every year, it's the standard (technical difficulties) when that happens because sort of the end of the year is the only time when all classes close out. All revenue from those terms is recognized and is not sitting in backlog. But it is up 30% year-over-year, so pretty consistent with the way the financials are running.

And I believe you're asking me about sort of the marking side as well?

LTR to see TCA ratio.

LTR to see TCA ratio, so for fourth quarter right on our target of 3.2 and you can see we've been right in that for the 3.1, 3.2 sort of ratio and you know that's kind of where we are running the business these days.

Yes, and the reason I love that number is there so many new verticals launching, that's a good story on some level the new verticals mean that you're depressing it because we're figuring how to market them.

Yep, and then the follow-up for you Chip, is that, you talked about that you're not moving forward with the one program that you hadn't revealed who the partner was. You said something about either change in leadership at that, I don't know that it was particular school are not, but I thought it was with an existing partner. I guess my question is, is there any risk to any other programs from that partner, because of a change of leadership is there any kind of clarification you can provide on that?

No, I wouldn't over steer on that. In doing new programs, it really comes down to when there's a new program that we're setting up and running, I say it for reason it's not to compliment my clients, when we talk about market opportunity and institutional will.

You need to have somebody on their side that really is driving this because these are really complicated transactions, sort of multilevel, lots of people involved. You might have 100 people on their side involved and somebody on their side ends up driving it. So I wouldn't over steer, I don't believe there is risk associated with that partner across the board in any meaningful way.

We just gave you that disclosure simply because we felt like we should. It is a point that we felt like we should make. I think in hindsight, we were trying to give additional color on pipeline, how to explain it's people, and ultimately what we come down to now is, we've hit every target we given you and we've raised it.

Ultimately what we're really looking at is we feel very confident in our ability to deliver 12 plus for next year. We certainly have into what it will be in the year after, but we feel like pipeline is in the best place it's been so we're going to tell you about them we were ready to and sort of not over steer on pipeline metrics.

All right. Thank you very much.

Our next question comes from Brian Schwartz from Oppenheimer. Your line is now open.

Hello Chip and Kathy, I've got two questions for you. They're business related questions, I know everyone's trying to dissect the numbers, mine is more question process related than what you're seeing behind-the-scenes. The first question I wanted to ask you both is, really in regard to what's happening with the sales cycles of the business?

And when I say sales cycle, I'm really talking about your sales and your service cycles around three things. One, your marketing services that you offer; two, you are in your program development for new programs; and then three, you're adding new partners and/or programs. Are they getting compressed, these cycles or are they getting elongated? How is the data around the sales cycles changing over the past year? And then I have a follow-up.

Wow, that's a question there Mike. What I would say, all three together you kind of have to separate them out.

So program development or new partner signing has gotten over time shorter in a way that's positive, that has more to do with the fact that we are certainly expanding more within our partner sweep, because we have a big partner sweep. At the same time, we thought this year was -- 2016 was a great -- that the announcement we made for 2017, we love for a bunch of reasons. Great diversity of geography; and really leadership change, people moving from school to a different school, in the past has really helped us a lot. If you look like Kent Syverud being the Dean of Wash U Law and becoming the Chancellor of Syracuse. This year we've got some really new action from some great universities that just are brand-new and really just because our partner suite is (technical difficulties)with our programs.

We've been able to, I think with quality staffing, something that Susan has been real focused on. If you look, we made a bunch of announcements about hires. We are continuing to beef up different parts of the work to deal with what is a larger business. We're not just adding more time for ourselves here, we're building (inaudible) behind it. So a couple of those, I think have become more routine.

It's interesting that these programs just launched now, right? Now there's a ton of people working here to make sure that they just launch now. But we haven't had to talk about that in a really long time, because we're getting really good at it.

You know, marketing is a complicated story that I think we try to give you clarity around LTR TCA, so you can get a sense as to what is happening. I think that's the way to approach it. Talking about this sort of cycle of marketing, I think is sufficiently complicated enough that I'm not sure if we would want to give a play-book to everybody else. What we have said is that it does take on average 7 months for somebody to enroll in a program and then over time, they deliver revenue by completing the program, which is why ultimately the most important number across the whole thing is that retention this quarter was 83%.

Thank you Chip, that was a lot of color, I appreciate it. The one follow-up question I wanted to ask you, was just how you think about internally about geographic expansion here within the United States? If you think about adding partners across the different regions in the US, how do you go about balancing the decision between going deeper with the partners and geography that the business is already very well established in? I'd refer to the two codes, versus pursuing new partners and new regions, like what the business is doing with the University of Dayton and Wash U in the Midwest. Thanks.

So I would say, you know, I do what they tell me to do, kidding aside, the idea is to make sure that you've got that combination of market opportunities and institutional wealth. We try to go into this in quite a bit of detail at the Investor Day, so that might actually be a useful point for the investor community to revisit because Harsha tried to show the vertical grab. At least just conceptually in different sizes of verticals based on the grief we've heard, how many we might do and that doesn't include Greenfield but it gives you quite a bit of color and geographic diversity is real important.

At the same time that whole institutional [wealth] thing once again is not a compliment to our partners. It is like having the right people on the other side is a big part of the equation. So geographic balance is important, but it is not the only story.

Thank you for taking my questions this afternoon. And on the very strong results this year in 2016 congratulations.

Thanks Brian.

Our next question comes from Jeff Silber from BMO Capital Markets. Your line is now open.

Thanks so much, I'm going to ask the question that everyone seems to be asking this earnings season to every company. We've got a new president down in Washington, I know there may not be some direct impact on your Company, but I'm just wondering are there any policy changes, any talk of policy changes that could be either beneficial or detrimental for your Company?

You know Jeff, we were prepared in either case and we felt strongly that to you would do very well in either case. So, you know, that's kind of where I believe, there clearly some that believe that regulations will change.

The reality is when your brand stewards is one of the best brands in the world, you have to be super careful regardless. We were prepared in either outcome and we feel very good about the Company going forward and would have felt honestly just as good in the other case. I feel like that's just what the story is, from that standpoint.

Okay, fair enough, and then Cathy, this one is for you, in terms of the financial outlook on revenue, what revenue per student trends or assumptions should we be making? Thanks.

Yes, this actually looks like it is going to be year where average revenue per FCE is going to remain relatively flat. We may see the typical kind of up 1%, down 1% kind of thing that happens throughout the year just depending on timing and mix between quarters. But we're not anticipating any significant movement one way or the other.

Okay that's great to hear thanks so much. Thanks.

Our next question is from Corey Greendale from First Analysis. Your line is now open.

Good afternoon congratulations on the year in the new headquarters. A couple questions, so the top 10 list, are all the programs in the top 10 list at the 300 to 400 new student scale?

We don't disclose that Corey.

Okay.

We're trying to give it relative. I mean obviously certain programs have disclosed on their own, of what their sizes are. Ultimately, there's a reason that we just, we try to give you additional color so you can understand the story, but ultimately we kind of had to leave it you to do your own math or not.

Okay, that's fine. I wanted to ask about the -- people have been asking about the cohort, I think there is only one people haven't asked about, so I'll ask about that one, which is the 2 year to 3 year cohort which is exactly where you said it would be comparing it to the 2 year to 3 year cohort last year. Last year that cohort was actually positive EBITDA and this year it's negative, and these are pretty, I think, big programs in the cohort this year, so can you just comment on why that change in profitability?

Yes, absolutely Corey and you hit it right on the head. We said even last year that the 2013 cohort which was last year in that 2 year to 3 year bucket was ahead of what we would expect and we expected this in 2014 cohort would come in more typical in the sort of single digits of losses and in fact that's exactly what has proven out.

The thing that, if you look at that 2013 cohort, it has in it what is probably the most -- the program, the launched program that has had is maybe the best MPV program from a financial performance standpoint. That cohort actually moved through to profitability on the back of that and another large program launch faster than we would've expected.

The following year, the 2014 cohort has in it at least one fairly significant Greenfield and in Greenfield's your often spending far more money in the early stage to drive revenue in there. It's just a variability in the mix of what these programs are. Completely expected given the profiles of those cohorts.

Great and Cathy, that's really helpful. Since you're on roll with that, I have one other for you which is I appreciate all of the detail on the CapEx. Can you give us some sense in 2017 what you said for free cash flow, or year end cash or some direction on that?

We are not going to talk about year-end cash quite yet. We do want to reiterate that it's really depending on some of the timing. We would look at spending more cash this year and it's one of the reasons why we really can't talk about free cash flow in how 2017 will play into free cash flow.

We do still stand by, that it if you take out sort of these additional spikes for outsized capital asset additions related to facilities. That we still believe what we discussed at analyst and investor day, which was that when we were sort of doing the five to six launches, the cash flow break even was basically year after adjusted EBITDA breakeven.

But as you kind of move to 10 that pushes out a year and as you kind of moved to 12 plus it pushes somewhere in that same neighborhood. We'll have a better view as we get further through the year, but I think the principle still holds.

And for the record, you still believe the business plan is fully funded with the cash you have?

Yes.

Okay thank you.

Our next question is from Andre Benjamin from Goldman Sachs. Your lines is now open.

Thanks and good evening. Some of the biggest articles for degree areas you have not necessarily penetrated, JV law degrees, engineering, medical Doctor, biology, architecture. I know we're staying tuned for 2018, I was just wondering is there anything in particular about some of those areas that are concerns that people have raised, since they are big I would imagine they have been discussed. What are some things we should think about potentially resolving those concerns?

Well I mean they're all different, they all have different issues we always have to go through accreditations and approvals. We do think over time if there's a good size vertical that we believe drives the right outcomes for the students and even more lately the ones that has political placements are honestly even more attractive, because we're getting really good at that thanks to a good team of people that are doing that here at 2U.

There's just lots to do Andre, you know and so some of it is -- a good example we haven't done our second MPH yet. We're early days, I know doesn't seem like it but this Company is early days in its story. There's a lot left. You know, the fact that we are starting to like doctorates to is relevant, there's just a lot of opportunity there in the addressable market of high-quality verticals for great graduate programs.

And you continue to beat your own guidance so trends are clearly even more favorable than you expected and a lot of what you discussed is clearly very positive today. In general, is there anything that you can highlight that maybe was a little bit less favorable than you are expecting that obviously got offset by all the positive news?

Well, I think it's pretty interesting that we included a section in our prepared remarks about a signed program that we told you about that we didn't deliver on. We're not trying to give you all the rosy stuff. The Company's doing really well, we're focus on the right things, we're trying to be transparent as we can and you know, we really like where the business is. I said I think we are delivering high quality digital education and doing it at scale in a way that nobody else is.

Thank you.

Our next question comes from Jeff Mueler from Baird. Your line is now open.

Thank you just given the Vanderbilt partnership structure, maybe a comment on your current thoughts on the enterprise model and whether or not that's evolving or how to think about the way the Vanderbilt deal is structured.

Okay so a couple things about that you combine two things there. I'll address both quickly.

Vanderbilt, I actually think Vanderbilt, the way Vanderbilt was structured you referring to sort of EDD and counseling together. Honestly we've done that from the very beginning, so we've done that all the way back, you go all the way back to Georgetown where we have the family nurse practitioner and the midwifery, and a few critical care and nurse education all wrapped up into one. More than that, these programs -- I think the most important thing for all of you to know is that that's a financial term.

We may actually give you a different words for it here shortly, because program might confuse when people are talking internally to you or at one of our partners of that various program that you were on. That's a financial term, we're trying to give you clarity for what it will delivered financially and I thought we actually did a good job on the investor day of highlighting the various puts and takes against the way to think about it. That was sort of point number one Vanderbilt.

Point number two on the enterprise model, we love our partnership with them and they've been an incredible partner, super flexible and we've been able to do a lot of great work together. Enterprise was an idea to try to aggregate the five discreetly different things into the cost structure of one. And as a program for financial term they actually like what Enterprise is delivering.

There's a reason we haven't rolled out more Enterprise programs, so actually that might go back to one for the other questions about something that didn't go perfectly. The Enterprise structure is something we've learned a lot from and financially as a program we actually like what that program is delivering, but we're not going to be rolling out more enterprise structure. So that those five different things in the cost structure of one thing was tricky. But we do think we're learning a lot from it and as I mentioned, we don't consider that to be Vanderbilt at all.

Okay, and then I guess just given the margin on the core for coupled with where the marketing efficiency ratio is, despite rolling out new verticals, any thoughts to more aggressively leaning in to market spend for some of the more established programs that are doing so well?

Well we kind of do that. So, the idea is -- we have this whole real obligation to our partners to deliver for them. That's what the moral of that story, the ones that are doing well and the ones are doing as well as we want. We got an obligation on both sides that's what these schools have signed up for is extremely high-quality at scale that improves their side of the equation also. So we kind of do that all the time.

Got it, thank you.

No problem.

Our next question comes from Alex Paris from Barrington Research. Your line is now open.

Good afternoon this is Chris Howe sitting in for Alex Paris. Hello.

Hello.

In regards to the article that Chip had highlighted, can you talk about or provide additional color on the changing dynamics in the corporate workplace and how that's influencing the actions of traditional universities? Your internal thoughts on that and maybe what impact this is having so far on the speed of adoption? Thank you.

The reality is there is a ton of need for high quality education and we do think that we play a part in helping universities today adapt to the needs of the workplace, because why should you pick up your life your job and move to attend a great grad school that's kind of a big deal. You know, over time things like (inaudible) and speech are both great opportunities for the Company in verticals that would not have registered on people's radars at the time that we think provide really high quality financial and job outcomes for folks. I think over time you'll see us, the key focus of the Company driving the outcome for the students.

Thank you for taking my question.

Thank you.

At this time I'm showing no further questions, I would now like to turn the call back over to Chip for any closing remarks.

Thanks operator. So before we go I just want to say a special thank you to our accounting team led by Chief Accounting Officer Andrea Papa including Dan Wick, Ryan Moore, Dave Solow, Andrew Nowak Crystal Johnson, Kelly Wong, Cam Ogala, Ashley Lyle, and the incomparable intern Daniel Edward for their support this earnings season. We'll see you out on the road folks.

Ladies and gentlemen, thank you for your participation in today's conference this does conclude the program you may now all disconnect everyone have a great day.