Executives
Heide Erickson
J. Kevin Gilligan - Chairman and Chief Executive Officer
Steven L. Polacek - Chief Financial Officer, Senior Vice President and Principal Accounting Officer
Analysts
Corey Greendale - First Analysis Securities Corporation, Research Division
Jerry R. Herman - Stifel, Nicolaus & Co., Inc., Research Division
David Chu - BofA Merrill Lynch, Research Division
Jeffrey Y. Volshteyn - JP Morgan Chase & Co, Research Division
Jeffrey M. Silber - BMO Capital Markets U.S.
Brandon Burke Dobell - William Blair & Company L.L.C., Research Division
Jeffrey P. Meuler - Robert W. Baird & Co. Incorporated, Research Division
Adrienne Colby - Deutsche Bank AG, Research Division
Trace A. Urdan - Wells Fargo Securities, LLC, Research Division
Capella Education (CPLA) Q4 2012 Earnings Call February 12, 2013 9:00 AM ET
Operator
Good morning, my name is Junisha, and I will be your conference operator today. At this time, I would like to welcome everyone to the Capella Education Company Fourth Quarter 2012 Earnings Call. [Operator Instructions] Ms. Heide Erickson, you may begin your call.
Heide Erickson
Thank you, Junisha, and good morning, everyone. Welcome to our fourth quarter conference call. Kevin Gilligan, Capella's Chairman and Chief Executive Officer; and Steve Polacek, Senior Vice President and Chief Financial Officer, are here with us to discuss this quarter's results.
Please note that this call may include information that could constitute forward-looking statements made pursuant to the Safe Harbor provisions to the Private Securities Litigation Reform Act of 1995. Any such forward-looking statements may involve risks and uncertainties. Although the company believes that the expectation reflected in such statements are based upon reasonable assumptions, the company's actual results could differ materially from those described in the forward-looking statements and are subject to a number of uncertainties and risks that the company has identified in the fourth quarter news release.
These and other factors are discussed in the company's most recent 10-K and 10-Qs filed with the Securities and Exchange Commission. Other unchanged factors may also be discussed in future 10-K and 10-Q filings. All filings and reconciliations of non-GAAP financial information presented in this call are available for viewing on our website at capellaeducation.com.
Following our prepared remarks, we will take your questions. With that, I'd like to turn the call over to Kevin Gilligan. Kevin?
J. Kevin Gilligan
Thanks, Heide, and good morning, everyone. Thanks for joining us. Capella enters 2013 as a more competitively focused company, with positive momentum in a number of key areas. In today's call, I'll reflect back on the momentum we've been building in 2012. Steve will then discuss our fourth quarter results and first quarter 2013 outlook, and I'll frame up our expectations for the full year 2013.
About 2 years ago, we made several fundamental decisions to reposition Capella to compete in what clearly was a significantly changing market environment. These decisions are starting to pay off, and they include: Shifting to our relationship and brand-driven marketing strategy away from the aggregator channel; investing in long-term performance improvement through learner success initiatives; and aligning our cost structure with the new business environment and our new strategies.
Last year, we turned a corner and are exiting 2012 in a much stronger position than we entered. We're gaining traction. In the face of an overall market environment that remains very challenging, we return to new enrollment growth in the second half of 2012, return to total enrollment growth in our bachelor's program, improved our learner success rates and shifted successfully towards more sustainable marketing channels.
New enrollment from aggregators is now around 10% of new enrollment. Much of the volume through this channel was replaced by new enrollment from other more sustainable sources, including our corporate partners, which we see as an important driver of future growth. We're confident in our strategies and our ability to execute them, and believe they will ultimately lead to sustainable profitable growth.
I'd like to now hand the call over to Steve before I return to talk more about what's ahead in 2013. Steve?
Steven L. Polacek
Thank you, Kevin. As reported this morning, fourth quarter new enrollment and operating margins were in line with the guidance we provided during our last call. Total enrollment and revenue were slightly better than anticipated, primarily due to stronger-than-expected mid-quarter registrations. Revenue for the quarter was $107 million, down 2.7% year-over-year, while total enrollment declined by 3.6% from fourth quarter 2011.
New enrollment in the fourth quarter was up 0.6% compared to the same quarter in 2011. As we said during our last earnings call, due to the pull-forward of new enrollment from the fourth quarter to the third quarter, new enrollment growth on a normalized level for the second half of 2012 year-over-year was about 5%.
Total enrollment for the bachelor's degrees was up 3.7%, the third consecutive quarter of growth. Year-over-year, new enrollment in master's degree programs was particularly strong during the fourth quarter. New enrollment growth at the doctoral level is lagging growth at both bachelor's and master's. Doctoral programs require the most significant investment in terms of time and cost. In addition, perspective doctoral learners have the longest decision cycles. We therefore expect total enrollment in our doctoral programs to take the longest to recover, which adds pressure on operating margin performance in the near term.
Revenue per learner, based on Capella University revenues only, declined by 1.3%, primarily related to colloquial [ph] revenue and enrollment mix. Impacts related to learner success grants and corporate discounts were largely offset by average tuition increases of less than 2%, which were effective in July 2012.
Consolidated operating margin for our fourth quarter was 14.1% compared to 17.2% last year. As you may have seen in our 8-K filing last week and the news release this morning, starting this quarter, we are providing additional granularity by adding the admissions advisory expense line. These are expenses that were previously combined with marketing and promotional expenses and primarily relate to costs of enrollment counselors and services that support the admissions process. The other main change is the reclassification of bad debt expense from general administrative expenses to instructional cost and services. These changes mirror industry practices and we believe provide more meaningful insights into our operations.
Instructional costs and services as a percent of revenue, increased primarily due to investments in cohort retention initiatives, increased technology and depreciation expenses and higher bad debt expense. Bad debt expense was 5% of revenues compared to 3.5% during the fourth quarter last year, primarily related to changes in the Title IV return of fund requirements that became effective in 2011 and mix shift. On annual basis, bad debt was 4.1% of revenue, approximately the same level we expect in the upcoming year. However, we do expect quarter-to-quarter fluctuations related to seasonality.
Marketing and promotional, admissions advisory and general administrative expenses were all in line with our expectations. Marketing promotional expenses were down year-over-year as a percent of revenue and on a dollar basis, primarily due to the increased efficiencies and changes we made in 2011 in aligning the cost structure to our marketing strategies.
Kevin will go into more detail on the impact of grants on revenue and operating margins. We are encouraged by the performance of our grants, which we believe have contributed to persistence improvements and new enrollment growth and will provide a positive return. However, we believe there's more opportunity to optimize our grant offerings, particularly at the master's level, to maximize incenting the right learner behavior and attracting the right learners.
We are balancing our investments to deliver new enrollments today with our long-term investments and academic quality, learner success and our diversification efforts. The income tax rate for the fourth quarter increased to 42.6%, primarily due to accumulated operating losses at RDI, our international subsidiary, for which we are not able to record a tax benefit at this time. This reduced earnings per share by about $0.05.
Let me now spend a moment on our full year financial performance. As Kevin outlined earlier, our performance indicator stabilized in 2012, such as new enrollment and persistence. For the full year, new enrollments grew 0.5 percentage point year-over-year compared to a decline of 32% in 2011. Early cohort persistent improve by 4% over last year. Going forward, we will -- reporting changes in the cohort persistence metric. This is a fourth quarter moving average new cohort persistent rate. We're calculating this for cohorts from the learner's first quarter to the start of the fourth quarter enrolled, since that's where our learner success strategy is focused. As you know, once a learner is with us for more than 4 quarters, the probability of graduating is very high.
Average quarterly total enrollment growth for 2012 was down 4.1% and revenue was down 1.9%. Operating income margin was 14.1%. We realized the benefit from the cost structure alignment in 2011. However, we made significant investments in our learner success and diversification efforts to drive long-term sustainable growth and performance improvements. About 6% of our cost structure is dedicated to our diversification efforts and other business development initiatives, which reduced the operating income margin this year by about 3 percentage points. This includes our investments in SOPHIA, which also serves as our learning research lab; and RDI, our international subsidiary. While we don't expect RDI to become profitable in 2013, the online education space in the U.K. is expected to grow significantly. Our focus in the upcoming year will be on scaling RDI and taking advantage of these attractive demand drivers.
During 2012, we achieved new enrollment improvements, even as we reduced marketing and promotional expenses by about $5 million for Capella University. 2012 was a peak year in terms of depreciation and amortization expenses, which increased by 21% to $29.1 million.
From a cash flow perspective, we generated $65 million in cash from operations and ended the year with a cash position of $115 million. For the year, we repurchased about 10% of our outstanding shares, representing 1.5 million shares, for total consideration of $51 million. In the fourth quarter 2012, we repurchased about 411,000 shares for a total consideration of $12.6 million. This resulted in additional earnings per share of $0.15 for the year and $0.06 for the quarter. The remaining share repurchase authorization, as of the end of fourth quarter, is $8.3 million. We continue to evaluate the best use of our cash in delivering shareholder value, including investments in our core business and diversification.
Let's turn now to our outlook for the first quarter of 2013. We're expecting year-over-year new enrollment growth for Cappella University to be up about 5%, similar to the normalized new enrollment growth in the second half of 2012. This is expected to be the third consecutive quarter of new enrollment growth.
Master's and bachelor's new enrollment are expected to perform the strongest. As I said earlier, we expect the doctoral programs will lag the bachelor's and master's programs in their recovery. Total enrollment is expected to decline by about 3% to 4% from first quarter 2012. Total revenue is expected to decrease year-over-year by approximately 4.5% to 5.5%, primarily related to the total enrollment decline.
Revenue per learner, based on Capella University revenue only, is expected to decline year-over-year by about 2%, primarily due to grants and mix shift. While we expect year-over-year new enrollment and persistent improvements during the quarter, the new enrollment declines we experienced through the second quarter of last year will continue to put pressure on total enrollments and operating performance in the near term.
Operating margin is expected to be about 12% to 13% of revenue compared to 16.4% during the first quarter 2012, primarily related to the decrease in revenue resulted from the decline in total enrollments. We expect marketing expenses during the first quarter 2013 to be one of the higher investment quarters.
In addition, admissions advisory expenses are expected to decline due to increased efficiencies. We are maintaining our investment levels in our learner success initiatives, marketing effectiveness and diversification efforts while continuing to pursue efficiencies. As Kevin will outline in more detail, we expect our operating margins to improve as total enrollment and revenue improve.
We anticipate the annual effective tax rate will be about 40%. Capital expenditures in 2013 are expected to be about 5% to 6% of revenue, primarily related to investments in database security, upgrades and maintenance of our systems and software.
We're confident in our strategies and our ability to return to growth and operating margin improvements. Our financial position is solid. We have a strong balance sheet and significant cash position to continue to invest in the future. We have a solid operating plan in place to successfully execute against our goals and to balance short- and long-term investments, with a return to our shareholders. Kevin?
J. Kevin Gilligan
Thanks, Steve. For the remainder of this call, I'd like to focus on our expectations going into 2013 and how we're positioning Capella for long-term sustainable growth in an increasingly competitive environment. As I said at the beginning, we made steady progress against our strategies in 2012 and are on the right trajectory, with 2 quarters of new enrollment growth and persistence improvement momentum.
2013 will be about execution, increasing market share and continued improvements on our way to more consistent sustained growth and further enhancing our growth prospects. It will also be a story of 2 halves. Because of the lagging effect of new enrollment declines we experienced in 2011 and the first 2 quarters in 2012, this lag effect will continue to put pressure on total enrollment growth, particularly during the first half of 2013.
Our improvements in persistence and new enrollment growth over the last 2 quarters are not yet significant enough to offset this extended period of new enrollment declines. The market environment remains challenging and we may still see volatility as we go through the year. However, if our new enrollment and persistent trends continue into the second half of 2013 uninterrupted, we expect the negative rate of total enrollment and revenue growth to moderate. As total enrollment and revenues stabilize, we expect operating income during the second half of 2013 to be at similar levels as during the second half of 2012. These anticipated improvements will then set us up for a return to total enrollment and revenue growth in 2014 and for improving operating profit.
We've made significant progress and continue to see opportunities ahead. For example, we repositioned our marketing strategy, which lowered the average cost per new enrollment, and improved the efficiency of our enrollment counselors. The number of applications each enrollment counselor is working on per quarter has increased by about 20%, and our learner success grants are performing as we expected.
The first of our learner success grants have now been in place for about one year. As you'll recall, throughout 2012, we changed our learner success grants to test our assumptions on learner persistence and new enrollments. Our analysis shows that learners who received grants for the first quarter of 2012 had overall higher persistence and that the grants also resulted in additional new enrollments.
While the learner success grants were in place generally between 4 to 8 quarters, revenue per learner is reduced. However, our early results continue to support our operating assumptions that these grants will pay for themselves and create shareholder value through increased learner lifetime value. Those learners that stay longer and graduate have very high contribution margins.
We're taking a disciplined approach to our grant programs, which are part of our overall affordability strategy. That means we'll continue to refine our grants and program offerings as we gain market experience to drive persistence improvement, enrollment growth and learner lifetime value.
We expect competition in the year ahead will continue to intensify. That's why we continue to make changes to our academic and business model. We believe these changes create an even more competitive Capella, strengthen our brand differentiation, grow our market share and ultimately position us to even better serve our learners.
In terms of our academic model, Capella has a fundamental competitive advantage due to our unique ability to design, deliver and measure competency-based learning in an online environment. These capabilities translate into demonstrated outcome for our learners, including career success and a high return on their investment. The income level of our graduates released by the Department of Education and independent survey data is very strong, visible evidence of our differentiated outcomes.
We're leveraging the strength of our academic and our fully online delivery model in Capella's culture, focused on academic quality and innovation to drive further differentiation. This also drives new growth opportunities.
For those of you who attended our Analyst and Investor Day last November, you'll recall that there are 4 focus areas. First, affordability. We're not just talking about the cost of the degree, we're talking about a much more comprehensive value equation that includes the cost of the degree, the time to achieve the degree, the certainty of outcomes and the return that learners get on their investment.
Our second focus area is speed to competency. A move away from seedtime towards advancing students when they have mastered course content is slowly emerging. High-quality institutions such as Capella are stepping up to develop models for learners to move at different speeds through course materials while maintaining academic rigor. This creates a tremendous opportunity to improve the education system and to further differentiate Capella.
Our third focus area is employer alignment, leveraging our ability to map competencies and skills directly to what employers need. And finally, relationship-based marketing, where we are interacting and building relationships with prospective learners much earlier in the decision process.
The redesign of 7 Master's in Psychology specializations is a good example of how we're leveraging the strength of our academic model to drive innovation, affordability and speed to competency. We announced at the end of January that we streamlined the curriculum for these Master's in Psych programs to maximize efficiency while delivering the same high-quality learning outcomes. This was possible because of the competency mapping we've built into our curriculum, which we leveraged as we redesigned the offering. Learners will need to take fewer courses to complete their program, which can be up to a 24% decrease in cost for learners, depending upon the specialization.
While the magnitude of this particular improvement is unusually large, it highlights the potential to apply the same innovation principles to achieve meaningful cost reductions and efficiencies for our learners and other programs, enhancing our value proposition, improving our conversion rate, improving our learner success rates and enlarging our addressable market.
As we're pursuing this affordability and speed-to-competency strategy, we are particularly mindful of shareholder value. We believe these strategies will enhance our growth prospects going forward. Another area in which we are enhancing our growth prospects is with our employer alignment and relationship-based marketing strategies. During 2012, we achieved significant momentum with our corporate partner channel, generating record new enrollment levels. Our focus was to, first, increase enrollment from our current partners; second, increase the number of new accounts; and third, offer more programs specifically tailored to the unique needs of employers.
The results have been very positive. We increased new enrollment through corporate partners, outperforming the aggregator and other direct channels, and established unique relationships with key companies and organizations that accelerated the new enrollment growth from this channel. Our relationship with healthcare-related organizations was a strategic focus, and results exceeded our expectations. More importantly, we're still building the opportunity with healthcare professionals and believe we're in the early stages of fully leveraging this opportunity.
Another marketing opportunity to drive further growth is our visitor center, which was totally redesigned and went live in mid-December. Our goal with the redesign was to share Capella's differentiation, address perspective learners' immediate needs and provide them with a dynamic experience. We want the perspective learner to be more informed before they apply, which we believe can also lead to higher persisting learners.
With the redesign, a learner can now more easily connect with the right enrollment counselor for their specific needs and build a relationship earlier in the decision-making process. Early indications from the redesign are very positive. We've seen a significant increase from learners from -- moving from inquiry to application, connecting with our enrollment counselors and accessing the website through mobile media.
The feedback from prospective learners has been very positive and the redesign of the visitor center has opened up new opportunities for us to engage with prospective learners earlier in the process and deepen our relationship, but has the potential to generate additional new enrollments and drive further marketing efficiencies.
We have a solid plan in place to convert these opportunities and to position Capella for long-term sustainable growth. We're optimistic because Capella has a strong foundation to build on, we're gaining traction and exiting the year on a stronger position and we're developing new opportunities that enhance our future growth prospects.
Ultimately, the success of our learners and graduates will be the key driver of our financial success. That's what motivates our faculty and our staff and that's what creates shareholder value.
With that, we'd be happy to take your questions.
Question-and-Answer Session
Operator
[Operator Instructions] Your first question comes from the line of Corey Greendale of First Analysis.
Corey Greendale - First Analysis Securities Corporation, Research Division
At the Investor Day, you provided a very helpful slide, a matrix that showed what we should expect for the turn on overall enrollment, based on changes in new students and persistence. So the new students, that's pretty transparent. I was hoping you might be able to talk a little bit more, give us some insight into how you're tracking on the persistent side, maybe specifically what happened in Q4 and what you're expecting into kind of the early part of 2013.
Steven L. Polacek
Sure, Corey. This is Steve. So what Corey's referring to is the graph that is available on our website as well. And it was a graph that laid out some assumptions relating to consistent quarter-over-quarter new enrollment growth, as well as consistent improvement year-over-year on early cohorts, where we're really focusing in on the first 4 quarters that a learner is with us in their academic studies with Capella University. And when you look at what we've -- as far as the tracking, both on persistence and new enrollment, as we've said in the back half of 2012, we experienced about a 5% back-half new enrollment growth. That's what we're expecting here in the first quarter. From a persistence perspective, the metric that we are now disclosing is an improvement year-over-year on that quarterly persistence metric, and so it's about 4% year-over-year. So when you look at the sort of graph, it's kind of in the middle, on both of those, on both the x- and y-axis. So we're progressing as planned, but I just want to reiterate that the graph that we put in at the Investor Day was to give some perspective on our business model and how it works and what sort of ranges of possible outcomes are, based on some of our learner success and new marketing and efficiency with our enrollment counselors from a new enrollment perspective.
Corey Greendale - First Analysis Securities Corporation, Research Division
Okay, that's helpful. And then I think you said, Steve, in your comments, that the new student growth at the master's level was particularly strong. I was hoping you might be able to quantify that and just talk a little bit about what you attribute, the fact that it was particularly strong at that level too.
Steven L. Polacek
Sure. So from a master's degree level, this was the degree level that, when you go back in the time periods when we had significant new enrollment decline, it was particularly acute at our master's level, given a number of factors, where there was the state of the economy, adult learners wanting to go back to do their educational studies, was it going to be worth it at that particular point in time. So we had some -- we actually had some easier comps when it comes to the master's level. So that's part of it. But it's also related to some of the differentiation that we've had, some of it in our master's programs. And where we don't have the differentiation, we've gone ahead and made use of some of the learner success grants. So we were not as differentiated. An example of that might be in our Master's in Education program, where we use learner success grants, in particularly, to incent learners to go ahead and enroll in that program and persist in that program. And I think that will be one example. The other one that Kevin mentioned that it's relatively recent is in our Master's in Psychology and redesigning some of those programs. We're expecting to increase the addressable market because of having a more affordable opportunity at that particular level.
J. Kevin Gilligan
Yes, Corey, this is Kevin. Just a couple other comments on master's. So I'd said the growth was broad-based. It came from a lot of things. Some of it was program redesign, some of it was from the corporate channel. We saw a nice growth in our counseling programs. I think the certificate programs that we put in place about a year ago are providing a nice pathway for our master's applicant flow. And so I'd say it was a number of things and it was broad-based, and we're very encouraged by that because, as you know, the profitability of our graduate programs is higher than the profitability our bachelor's programs.
Corey Greendale - First Analysis Securities Corporation, Research Division
I was just going squeeze in one last quick one. On the -- do you think that the 2% decline in revenue per learner at Capella -- is that a good assumption for the entire year as you tweak the learner success grants?
Steven L. Polacek
Corey, this is Steve. We're not commenting on beyond the first quarter. There is going to be a little bit of volatility in that particular measurement. It depends on a number of factors. It was less than 2%. It was like 1.3% in our fourth quarter. It did increase a little bit here in the first quarter. We are going to start lapping some of our learner success grants. So that will have some muting impact as we go forward. And then we are going to decide what we're going to do from -- in July, for example, when we will be evaluating our programs for potential sort of price increases, which may negate some of that sort of impact. We look at it in kind of a total basis from a net price perspective.
Operator
Your next question comes from the line of Jerry Herman of Stifel.
Jerry R. Herman - Stifel, Nicolaus & Co., Inc., Research Division
Guys, can you let us know how many are the percentage of learners that are actually are on the success grants and maybe some more color on the persistence of those students? And is there some tipping point where the cohorts are large enough to truly measure what that persistence is, especially the beyond the grant period?
Steven L. Polacek
So relating to the learner success grants and other sort of discount programs, if you look at our total enrollments, the number of learners that are under some sort of a alliance corporate discount outside of a Capella University scholarship or grant is about 1/3 of our learners. That's been consistent in 2012, as well as 2011. When it comes to the Capella offerings, it's a relatively small percentage of our total enrollment, since we just put that in place about a year ago, as Kevin had mentioned. So it's relatively small, although that will increase as more of those learners go into our total enrollment pool. About half of the programs where we have learner success grants in place, we get about half of our new enrollment from those particular programs, at least those are eligible for the people who sign up for those. As far as your question about having it large enough to see what the sort of impact is, our early indications are is that the -- those programs where we have the learner success grants in place, we are seeing improved persistence, which is part of our economic analysis of making them worthwhile. But to your point, I think, as we get a larger population in there, we'll get more clarity and more precision on the data and be able to comment more about what we're seeing from a persistence lift on those learner success grants.
Jerry R. Herman - Stifel, Nicolaus & Co., Inc., Research Division
Great. And just -- well, let me ask about the grants themselves. It looks like, at least, according to the website, the most recent grants have, I guess, been reduced slightly in the education program and the MBA program. Can you comment on that as to the rationale and the specifics?
Steven L. Polacek
Sure, Jerry. So as we have talked about, when we look at the learner success grants, particularly when we first put them in place, we wanted to pilot them to see what the impacts were relating to conversion rates, relating to new enrollment. Once we got them in the program, do we see some persistence improvements or re-registration into subsequent courses? We looked at the competitive landscape relating to those particular programs. And in those couple of examples, we either put additional sort of enhancements into the particular program or wanted to scale back a little bit of our investment to see what the impact would be relating to an enrollment perspective. So it's a little bit of our piloting, trying it, modifying it, to see what the sort of impact is. But what we're seeing is that, we're seeing the sort of consistent results, even though we reduced the dollar amount. So that kind of the dynamics that we look at as far as evaluating and then making modifications. We've mentioned that earlier. I will say that as we look into 2013, we'll continue to modify those grants as market conditions dictate and our experience dictates.
Operator
Your next question comes from the line of David Chu of Bank of America Merrill Lynch.
David Chu - BofA Merrill Lynch, Research Division
So cost on an absolute dollar basis hasn't declined, despite a lower enrollment base if we look at 2012 versus '11. I mean, do you think that's something we can actually see in 2013?
Steven L. Polacek
David, I don't know if I quite caught your question. What are the numbers you're comparing between '12 and '11 again?
David Chu - BofA Merrill Lynch, Research Division
Just total costs.
Steven L. Polacek
Okay. So from a total cost perspective, we're obviously mindful with the decline in CU enrollment, in CU revenues that we need to continue to be diligent and efficient in our operations. I think there's a couple of good examples, particularly when it comes to our marketing and promotional expenses, as well as admissions advisory, where we're having declining cost year-over-year despite having increased enrollments. So we looked at how do we drive efficiencies, that's part of our marketing strategy, to go ahead and look at putting our dollars into much more of a relationship strategy, where we can be more cost-effective than historically was, maybe in the aggregator channel, as an example. We're also looking at the tools and efficiencies that we provide to our enrollment counselors, as Kevin mentioned in his prepared remarks. We got a 20% efficiency in our enrollment counselors. So we're continuing to look at our sort of cost structure and evaluate opportunities and balancing that with our long-term initiative. What we would say is that, as we -- if we consistently can have the new enrollment and our persistence improvements, we're expecting that the overall decline in sort of revenues and operating margin performance to start moderating in the back half. Once we turn to enrollment growth and then revenue growth, we would see the expansion of our margins because of our -- of the leverage that we have in our model.
David Chu - BofA Merrill Lynch, Research Division
Okay. And so your commentary on application rates was helpful, but can you talk about what you're seeing in terms of conversion rates?
J. Kevin Gilligan
David, it's Kevin. Conversion rates are strong. They improved year-over-year. They're not only -- they're improving, the conversion rate from increased application is strong, and the conversion rate from application to enrollment is strong. I would say I haven't been asked -- I will just comment that the demand environment, I think, is still very challenging and weak in some areas. I think we mentioned in the last earnings call, we were starting to see some weakness in paid search that has continued. We've been able to offset that with growth from other channels, but the conversions rates are strong and I think that -- I think what we're demonstrating is that our value proposition is strong, and we're getting more effective at executing our strategies in a tough market.
Operator
Your next question comes from the line of Jeff Volshteyn of JPMorgan.
Jeffrey Y. Volshteyn - JP Morgan Chase & Co, Research Division
Bad debt expense has been going up in the last couple of quarters. How should we think about it going forward in 2013?
Steven L. Polacek
Jeff, this is Steve. So yes, bad debt expense has been a significant cost increase for us over 2012 versus 2011, which -- we attribute the majority, the vast majority of that, related to the Title IV rule changes relating to academic engagement. We are looking at the 2013 rate being about what the 2012 rate was, which was about 4.1%. We had some increased bad debt expense in the back half, as we had more and more learners kind of rule through the sort of their academic endeavors, and us having balances that we had to -- funds that we had to return back to the lender and then try to recover those funds from the learners, which is challenging, particularly when they no longer academically engage, haven't finished the course work, don't want to necessarily pay the amounts back to sort of Capella. So that's a challenging situation to be in, and it's particularly acute relating to our bachelor's program. So we're focusing in on how [ph] -- to go ahead and minimizing that. The primary driver on that will be improving, increasing the quality of our learners at the bachelor level. We have made some progress on that. We need to continue to make progress in those more academically ready learners, so that we can minimize some of the bad debt expense on a go-forward basis.
Jeffrey Y. Volshteyn - JP Morgan Chase & Co, Research Division
Okay. And then in 2013, what are your expectations for graduating classes compared to 2012?
Steven L. Polacek
In 2012, I think we had about 1,000 more graduates than we did the prior year. So I think in '11, it was about 5,800 and went up to about 6,800. That sort of level in '13, I would expect that, that would probably go ahead and continue. Again, the increase in the graduations really relates to those cohorts that we had a number of years ago that are completing their academic studies. So that's going to continue to be an increase there.
Jeffrey Y. Volshteyn - JP Morgan Chase & Co, Research Division
Just one more, if I could. Corporate enrollment, can you quantify what percentage of students are coming from corporate partners?
J. Kevin Gilligan
Yes, this is Kevin, Jeff. Historically, about 1/3 of our total enrollment has come from our corporate channels, 1/3 from direct marketing channels and 1/3 from aggregator. And as we've mentioned, we've been reducing the emphasis on aggregator. So the corporate channel is more than 1/3 today.
Operator
Your next question comes from the line of Jeff Silber of BMO Capital Markets.
Jeffrey M. Silber - BMO Capital Markets U.S.
I just want to turn back to the first quarter guidance. I think you had mentioned that you would expect marketing and promotional to be relatively high in the first quarter, if you can give us a little bit more color on that. And is that the main reason we're going to see such sizable market -- margin contraction in the quarter?
Steven L. Polacek
Yes, Jeff, this is Steve. So the -- what we mentioned on the call is that marketing and promotion for the first quarter is going to be one of the higher investment quarters that we're going to have in 2013. Typically, the seasonality relating to our marketing spend, you have quite a bit in our, generally, in our fiscal third quarter as we get ready to the kind of the back-to-school type of time period, that September, October time period. So we're expecting the first quarter to be one of the higher ones. When we look at it from a sort of comparable perspective, if you compare it to a year ago, it's going to be elevated $1 million or so in the first quarter of '13 versus sort of '12. But as we go through the year, we're expecting to be pretty much at the same sort of levels because we're continuing to gain efficiencies. And obviously, we're getting enrollment growth from those lower cost spends. So that's one of the reasons for the decline in the margin. The other one really relates to the decline in total enrollment. So total enrollment down 3% to 4% on the guidance period basis; revenue, 4.5% to 5.5%. That will obviously fall down into the operating margin. What's happening on the revenue line, in addition to the total enrollment decline, whereas to the revenue per learner, as I mentioned on our prepared remarks, -- being declined about 2%. That's related to 3 primary factors. We're going to have lower colloquial [ph] revenue in the first quarter of '13. We have the continued sort of mix shift to lower revenue per learner programs and finally related to kind of net pricing, which discounts exceeding any sort of price increase. Those are the main factors on the revenue decline.
Jeffrey M. Silber - BMO Capital Markets U.S.
All right. Great, that's very helpful. You mentioned you'd be looking for starts growth roughly in line with what you saw in the second half of 2012. What kind of metrics do you track or are you looking for to make sure that, that's sustainable beyond the first quarter?
J. Kevin Gilligan
Yes, Jeff, it's Kevin. I'll take it. So we have a set of metrics skill up [ph] funnel. We look at inquiry flow, we look at application rate, we look at mix as examples. And our application rate, I'd say through January into February has continued to be healthy. So if we can continue that trend, I think that bodes well beyond the first quarter. But as we've commented before, the environment continues to be challenging and visibility limited.
Operator
Our next question comes from the line of Brandon Dobell of William Blair.
Brandon Burke Dobell - William Blair & Company L.L.C., Research Division
Not sure which one this is for, but maybe some color on how you guys think about the opportunity in certificate and diploma, maybe for bachelor's students or for master's students. From a sales strategy perspective, what's the right kind of marketing channel to go after that opportunity? And is there a size relative to the degree-granting part of your business you'd like to see that become? Or is it just more -- you see where it goes and that's where we have placed out?
J. Kevin Gilligan
Yes, Brandon. This is Kevin and I'll start, and Steve can chime in. So you're really asking a question about mix. I think it's a good question. Fundamentally, our goal is to remain largely a graduate institution. That's where our sweet spot is, and the margins are better there. I think that the reason you've seen growth in the certificate program area over the last 12 to 18 months is, I think it provided a good alternative for learners in this environment where they could earn a valuable credential in the short term that was highly affordable, but we tried to construct it in a way that it could also be a pathway into a graduate program. So the design of our certificate programs is really intended to help maintain volume to continue to feed our graduate programs. And we have the sort of the same philosophy with our bachelor programs. We're looking -- the ideal bachelor learner for us is someone that not only brings some prior college experience, but is -- sees himself as a career professional in the field where advanced degrees are going to be important to future career progression. So I think our mix strategy is to drive as much growth on the graduate side as we can.
Steven L. Polacek
The only thing I would add, Brandon, to Kevin's comments is that, from a marketing perspective, we're not out there, going out specifically, using that as -- we're going to go after certificate sort of learners. It's part of the dialogue and discussion that our enrollment counselors have in their consultive approach with learners about what they want to achieve, what can they afford, what's reasonable for them, the timeframe, things of that sort. In many times, that leads you into a dialogue and discussion about a certificate program to then eventually potentially lead into that master's level.
Brandon Burke Dobell - William Blair & Company L.L.C., Research Division
Any sense of, I guess, certificate into a master's student eventually or vice versa? So I guess I'm trying to get a feel for the marketing supply chain. I'd say you got people who were previously master's students, they come back for some certificate or diploma as their job requires it or people who start with a certificate and then 2 years, may come back, and say, "You know what? Now, I want to get my master's." Kind of what the marketing feedback loop would be?
J. Kevin Gilligan
I think it's a little early to say that. I can -- what we can say is that, we're seeing pretty good flow in our counseling programs. We've put some counseling certificates in place and they provided some enrollments into our master's program. I think that's -- we had very healthy master's growth in our counseling program in the fourth quarter. I think that was an important feeder. I'd say, historically, it's probably been about 1/4 of the certificate learners have gone on to another program, obviously we'd like to drive that number up.
Brandon Burke Dobell - William Blair & Company L.L.C., Research Division
Right. Okay. And then final question for me. Given all the puts and takes around pricing and mix between bachelor's and master's, how do we think about the right total enrollment growth rate for you guys long term? Because you could say we could grow enrollments at 20% [ph], but to get there, we need to give away 5% [ph] on price to keep retention up or it could be a lower number without as much price or discounting. How do I think about a, the process you guys are going through to determine what that right growth rate is and b, some color around what the metrics are you look to try and figure out what the right number is.
J. Kevin Gilligan
Well, why don't I start, and then Steve can chime in. The -- our goal is to grow earnings, because when you have earnings growth, it's going to create value. And it's going to take revenue growth to accomplish earnings growth, and we think the best -- and if we can get revenue growth moving, we think there's still scale in our model to give leverage on margins. So the question is what's the best way to get revenue growth? From our point of view, it's having stable new enrollment growth and continuing improvements in persistence. And I think we're encouraged because we're seeing traction on both of those. At the same time, we are -- our operating assumption is that the market's not going to get a lot better, we're going to have to earn it. So that, to me, suggests more modest new enrollment growth than the industry has typically seen. And in the short term, where we do experience negative price or mix from revenue per learner from our grants, but as the persistence rates improve and you get a compounding effect, you'll get a much higher learner lifetime value. So I'd say, in the short time, we probably have to drive total enrollment, we want to get total enrollment probably above revenue growth for a short period of time. But over time, they ought to come together.
Operator
Your next question comes from the line of Jeff Mueller of Baird.
Jeffrey P. Meuler - Robert W. Baird & Co. Incorporated, Research Division
I want to ask a follow-up on bad debt expense -- it's -- in particular, because it's at least been above our expectation the last 2 quarters and you've talked about students kind of rolling through with the new return to lender [indiscernible]. I guess, why are you adding an inflection point now with the students flowing through, where it wouldn't continue to increase, especially considering the continued mix shift towards bachelor's, with bachelor's total enrollments growing faster? What are the offsets there?
Steven L. Polacek
Yes, Jeff, the offsets are primarily related to a couple of things. One is just how we're going ahead and the learners we're bringing in. So even if the mix shift continues to be on -- more towards bachelor's than other degree programs, the quality of those learners, in one way we measure that is learners that have transfer credits or rather a sort of academic experience that those, typically, would be better from a progression progressive perspective, as well as from a bad debt perspective. Two is related to our collection efforts and some of the changes that we're making there to go ahead and mitigate some of the sort of impact. Those are the 2 primary [ph] factors to try to get this thing to normalize on a basis for us.
Jeffrey P. Meuler - Robert W. Baird & Co. Incorporated, Research Division
Okay. And then your balance sheet. I know that you guys kind of coached this down at the beginning of the year that you weren't going to be as aggressive purchasing stock. You bought back another 10% in the year over 3% in Q4. You're balance sheet remains pristine, I know your authorization kind of dwindling down. Is it possible that you'd continue to repurchase at this type of clip?
Steven L. Polacek
Well, as far as the -- our share repurchase program, we've, obviously, as you mentioned, been pretty aggressive in doing share buybacks. Over the last 3 years, we've spent about $200 million of buying our stock back. And at the end of 2012, we have a little bit more than $8 million on our authorization. We continue to evaluate the -- our cash balances and how we want to drive the shareholder value in today's sort of environment. Share repurchases is, in that consideration set, as well as other things that we've mentioned before, whether it's investing in our business or diversification efforts, things of that particular sort. But at this stage, we're just kind of continuing to evaluate those. And as we have any sort of other sort of decisions relating to that, whether it's an expansion of the authorization or some other things, then we'll inform you.
Jeffrey P. Meuler - Robert W. Baird & Co. Incorporated, Research Division
Okay. And can you remind us what's the kind of minimal amount of working cash that you want to keep both to provide flexibility and to kind of retain the high Department of Education financial responsibilities course?
Steven L. Polacek
Yes. What we've talked about is about $75 million to $80 million in the past to do that. That's obviously more than we need from both a regulatory perspective as well as a working capital perspective. But that's kind of the benchmark that we've laid out for ourselves.
Jeffrey P. Meuler - Robert W. Baird & Co. Incorporated, Research Division
And then one last one. As you guys scale RDI, at what point do you expect it to hit breakeven?
Steven L. Polacek
Well, RDI is growing from a top line revenue perspective, but it just hasn't achieved scale to be able to become breakeven yet. We're expecting continuing losses into 2013. We're developing the other marketing channels to expand our revenue growth at a more significant rate to go ahead and start doing that. So it's going to be beyond '13. We're not commenting exactly what sort of period. But we're continuing to be encouraged by the overall market in the U.K. and how RDI is positioned there.
J. Kevin Gilligan
I would just add to that, that we blew [ph] the RDI for the long-term opportunity, and we're taking an investment approach at this time to build our position.
Operator
Your next question comes from the line of Adrienne Colby of Deutsche Bank.
Adrienne Colby - Deutsche Bank AG, Research Division
I was hoping to get a little bit more color on the 20% reduction, I think you said you were seeing in the admissions advisory line. Just interested in what's driving some of those increased efficiencies.
Steven L. Polacek
Yes. What -- the comment was related to the efficiency of our enrollment counselors and the number of enrollments they've been able to bring into Capella and increasing the efficiency of that particular group. It wasn't meant to be the overall sort of admissions line. We are continuing to see efficiencies. I think one of the examples would be, for example, our visitor center where there can be more data and information. We have a program finder, for example, that prospective learners can get information on a program so they can get some background information, and then when they've got some of their questions answered and others that are open, they can then engage with an enrollment counselor. That helps improve the efficiency using a technology tool. We're continuing to put those in place for our enrollment counselors. So that's part of the efficiency that we're expecting to gain in that particular area.
J. Kevin Gilligan
And we continue to look for opportunities to put new tools in their hands to make them increasingly productive going forward.
Adrienne Colby - Deutsche Bank AG, Research Division
So should we look for some efficiencies actually then in that line? I mean, I guess I'm just looking at 2012 versus 2011 in terms of your absolute dollar spend at least. Should we be expecting to see that reflected as we move into 2013?
Steven L. Polacek
Yes. We're expecting to continue to have efficiencies in that particular line, just as we are, as I said, for example, what we had in our marketing line in 2012 versus '11.
Adrienne Colby - Deutsche Bank AG, Research Division
Helpful. And then I was just wondering if you're seeing any shift in your demographics. I mean, I know that the younger college students has been a very small part of your mix. But with some of the efforts that you're doing with SOPHIA, if you're seeing any shift at all.
J. Kevin Gilligan
This is Kevin. Not at this time. I mean, SOPHIA, continues to be a relatively modest piece of our overall portfolio. I will tell you that we are excited about the progress we're making with SOPHIA. We introduced 5 gen ed courses last year and we're going to be introducing more this year. We've had about 100 students go through SOPHIA. We've gotten very -- 100 courses taken with 100 students, very positive feedback. And by the way, high completion rates, which we're excited about. But it -- that's a relatively small base on our total enrollment. So demographics are, at this point, are essentially unchanged.
Operator
Your next question comes from the line of Trace Urdan of Wells Fargo Securities.
Trace A. Urdan - Wells Fargo Securities, LLC, Research Division
Kevin, I wonder if you could comment on the Master's of Education market, whether it's -- I know state budgets for education spending are looking a little stronger as we head into the next budgeting season. I'm wondering if the teachers are feeling more confident about their overall status, and if you're seeing that reflected at all in your business. And then sort of longer term, I'm wondering how you're thinking about that market and whether you're, at all, wary about growing it too rapidly going forward, given the pressure it came under during this past recession.
J. Kevin Gilligan
Sure. So I'll -- let's start with the long term. Long term, we think it's an attractive space. The market's large. There's going to -- continue to be demand for advanced knowledge. I think there's going to -- it could be a shift towards the ability to demonstrate that, that advanced knowledge can be applied in a classroom to improve student achievement. And I think our competency-based model positions us well to move our programs in that direction. We're also going to have significant turnover due to retirements over the long term. So long term, I think it's a good market. I'd say, short term, we're finding it to be up and down. We did not have as much -- we had nice performance in the third quarter, softer performance in the fourth quarter. It continues to be very competitive in the short term, so -- and -- so we look -- we're using new specializations, program redesigns, grant programs to attempt to support that program in the short term, while we make -- develop strategies to attack the longer-term opportunity.
Trace A. Urdan - Wells Fargo Securities, LLC, Research Division
Okay. And then I just -- I wanted to ask about -- I know this came up at your Investor Day, and not that much time has passed, but I'll come back at it again because last week, there was an announcement that Coursera -- I guess the ACE folks endorsed 5 of Coursera's courses as recommended for credit. And I'm wondering if it's sort of -- whether you felt any -- had any request for credit on MOOCs and whether you're looking at that more actively to get in light of last week's announcements from ACE.
J. Kevin Gilligan
Well, so I'd say general position on MOOCs is we think it's a positive development for the industry because it validates the innovation potential for online learning to improve access and improve affordability. So we think it's generally a positive development. Our learners today are looking for more complete solution where they need other services that aren't available through MOOCs and they want that connection to employment and that's what we're focused on today. One of the reasons we're engaged in SOPHIA is we can see MOOC-like models developing in the future. In the case of SOPHIA, students that complete a SOPHIA gen ed course, if they become part of Capella University, have the pathway to receive academic credit for that. And we're also in conversations with ACE, as I think we mentioned at the Investor Day, to provide broader access to academic credit through SOPHIA. So I think it's -- and I view the MOOCs as sort of a early-stage manifestation of open source, which, I think, is going to drive, long term, more opportunity for online.
Operator
Your final question comes from the line of James Samford of Citigroup.
Unknown Analyst
This is Kevin Kieschnick [ph] filling in for James Samford. Just basically, you guys covered all the questions that we had. But we just kind of wanted to know about trends in the U.K. I think you're talk about RDI and things like that. And do you have any other stops for expanding internationally, any other plans?
J. Kevin Gilligan
Where I focus right now is to get RDI scaled to profitability. And RDI, I should mention, not only serves the U.K. market, but serves international markets where learners are looking for U.K. awarded degrees. So we're going to continue to focus on RDI as our principal vehicle for international.
Unknown Analyst
Okay. And just on -- [indiscernible] the last question about the MOOCs. Now, do you see if there's like any kind of pressure from an investment innovation for like SOPHIA? Do you feel like more kind of pressure to invest in SOPHIA and kind of pick the lid up for the online share that the MOOCs are grabbing or at least the headlines are grabbing?
J. Kevin Gilligan
Well, I would say, we're -- I think we're investing at an appropriate rate today, given the rate at which the market is moving. I think we have to stay close to the action because I think they'll be -- it's unclear what the winning models are ultimately going to be. So our strategy is to be engaged, to be in the game, to be in the market and learning and then be able to move fast enough when it becomes clear what the ultimate winning models look like, so I'm comfortable with our current rate of investment.
Okay. So I think that covers all the questions. I want to thank everyone for joining us today. I'd just close by saying, we remain very upbeat about our long-term prospects. We think Capella's got a strong foundation to build on. We're excited about the traction. We're demonstrating with both new enrollment and persistence improvement and we feel we're well on our way to getting the company back to sustained and profitable growth. If you have any additional questions, I'd ask that you please contact Heide Erickson. Thanks again for being with us and have a great day.
Operator
This concludes today's call. You may now disconnect.
Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.
THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.
If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!