Highlights
Fiscal year 2012 was a tremendous year for the Company. We increased revenues to $708.4 million, a growth rate of 35.6%.
EBITDA* increased 29.7% to $87.0 million.
Revenue
2008
2009
2010
2011
$226.2M
$315.6M
$384.5M
$522.4M
)
s
n
o
i
l
l
i
m
n
i
s
r
a
l
l
o
d
(
800
700
600
500
400
300
200
100
0
2012
$708.4M
2008
2009
2010
2011
2012
EBITDA*
2008
2009
2010
2011
$25.6M
$43.2M
$61.2M
$67.1M
2012
$87.0M
Income from
Operations
2008
2009
2010
2011
2012
$13.0M
$22.3M
$35.5M
$24.2M
$29.0M
100
) 80
s
n
o
i
l
l
i
m
n
i
s
r
a
l
l
o
d
(
)
s
n
o
i
l
l
i
m
n
i
s
r
a
l
l
o
d
(
60
40
20
0
40
35
30
25
20
15
10
5
0
2008
2009
2010
2011
2012
2008
2009
2010
2011
2012
*EBITDA is a non-GAAP measure. See reconciliation of net income to EBITDA in Item 6, Selected Financial Data in our Form 10-K.
Pushing the Boundaries of Online Education
To Our Fellow Shareholders:
K12 was founded to give every child access to an excellent
proud to have won the 2012 Distinguished Achievement
education, recognizing that technology could enable this
Award for Fundamentals of Geometry and Algebra (6th
to happen. K12 has come a long way in the past decade
Grade Math) and to be named a 2012 Distinguished
toward fulfilling that mission and now partners with states,
Achievement Award
finalist
for Elementary School
districts, schools, parents, and students to meet their
Language Arts (Kindergarten). AEP award recipients
education needs. Today, we are enhancing the educational
are honored for their high-quality educational content,
experience as well as changing how education is delivered
and the Distinguished Achievement Awards recognize
and consumed. Most importantly, we are individualizing
the year’s finest achievements in educational products.
education for students from all geographic and economic
Our employees work especially hard to create the best
strata in the United States and around the world.
education experience for K–12 learners, and we are proud
that their accomplishments are being widely recognized.
K12 continues to broaden its reach, serving students
in 85 countries and all 50 states, including more than
We remain dedicated to delivering world-class curriculum
2,000 school districts across the United States. This
and education. The rapid adoption of technology-based
transformation is a testament to the quality of K12’s
learning is a significant education paradigm shift, one of the
products and services that are designed to improve
largest ever seen. Today, we are facilitating the transition
learning outcomes for all students. Online education
from the old chalk-and-talk, one-size-fits-all education
has removed the nexus between geography and quality,
model to a technology-driven
individualized
learning
opening up a new frontier for students seeking an
environment for every student. Technology-based online
individualized education experience.
education is transformational, and K12 continues to lead
K12 continues to receive important industry awards for
the quality of its curriculum. During this past year, K12 was
named the leading provider of online curriculum to school
districts by Market Data Retrieval’s research service,
EdNET Insight. In 2012, K¹² was once again honored by
the Association of Educational Publishers (AEP). K¹² is
the way so that all students can obtain the education they
deserve. We will continue to work with states, schools,
parents, and students to create education models that
prepare students for the 21st century. We strive to help
more students succeed, graduate, prepare for post-
secondary education, and enter the global workforce.
We continue to grow rapidly and expand our footprint.
This school year, we opened a school in New Jersey
that combines online learning with physical classroom
participation (a “Flex” school), as well as K12-managed
online public schools in two new states—Iowa and New
Mexico. These are in addition to Louisiana and Tennessee,
which opened last year. Also, enrollment caps have been
expanded or eliminated in several states.
“ Technology-based
online education is
transformational, and K12
continues to lead the way.”
Our three lines of business—full-time managed public
schools (turn-key management services provided to public
schools), institutional business (educational products and
services provided to school districts, public schools, and
other educational institutions that we do not manage), and
international and private pay business (private schools for
which we charge student tuition and make direct consumer
sales)—are all growing rapidly. At our full-time managed
public schools, revenues grew more than 31%, from $454.0
million in fiscal year 2011 to $596.1 million in 2012. In fiscal
year 2012, our institutional business revenues grew more
than 56% year-over-year, from $46.8 million to $73.2
million, while our international and private pay business
revenues increased in excess of 80%, from $21.7 million to
$39.1 million. Despite a challenging economic climate, we
are pleased to report that overall revenue growth in fiscal
year 2012 was almost 36% compared to the prior year,
driven primarily by organic growth.
In addition to serving more students and schools, we
are also dedicated to driving efficiencies that allow us to
deliver more to students for less. In fact, this year we are
starting to see positive results from many of the strategic
acquisitions made in the last few years. These acquisitions
are strengthening our domestic and global product lines,
services, and market reach. As we complete the integration
of these acquisitions, they are now providing broader
product
lines,
improved company-wide economies of
scale, and expanded revenue opportunities—all positive
Helping Dropouts Graduate
K12 and Chicago Public Schools’ Youth
Connection Charter School launched
the YCCS Virtual High School in 2009,
a dropout intervention program. YCCS
Virtual High School provides a rigorous
blend of individualized, online and
face-to-face instruction, plus social
development support.
The nationwide need is critical: a
report from the Institute of Education
Sciences, National Center for Education
Statistics (NCES), found that about
25% of public school students drop out
before they finish high school.
This Chicago public school program
serves 18- to 21-year-old students
who have previously dropped out of
school and need to complete less than
two years’ worth of credits in order to
graduate. The students split their time
in half between online and in-class
learning, meeting daily at Malcolm X
City College for teacher-led instruction
combined with virtual classrooms
where students take online courses.
This demonstrates the flexibility of K12-
blended models.
The flexible, individualized aspect of
online courses is particularly valuable
to at-risk students, who associate the
existing brick-and-mortar classroom
model and traditional schedule with
their failure.
YCCS Virtual High School continues
to be a solid success for students who
previously dropped out of school. For
the third year in a row, more than 90%
of the eligible senior class successfully
graduated. This compares to a 2012
graduation rate for Chicago public
building blocks that we believe will contribute to our
schools of about 61% (projected to be
future growth and profitability.
60.6% as of June 2012).
“ When we speak of modernizing the classroom, we
are talking about improving the way students learn.”
Infrastructure Investment
Additionally, we know from the data that the longer
students are enrolled in K12-managed public schools, the
We continue to invest in infrastructure and software. For
more likely they are to be proficient, i.e., on grade level, as
example, our new customer relationship management
determined by state standardized tests.
(CRM) and marketing automation systems, state-of-the-
art second data center, and Oracle enterprise resource
planning system provide a more robust, company-wide
infrastructure that allows us to drive efficiencies, leverage
legacy technologies, and scale our business faster.
K12 will be issuing an Annual Academic Report in the fall
of 2012 that will explain how we measure the academic
performance of our students and the associated challenges
and
inaccuracies of applying traditional performance
evaluation methods to virtual public schools, given
Together, our infrastructure investments and strategic
their high student growth rates and dynamic student
acquisitions will allow the company to manage—and
populations.
grow—a much larger, and more efficient, domestic and
international education enterprise that can better achieve
our primary mission of delivering a quality education to all
students who seek this choice.
Continued Research
and Product Development
Academic Performance
We believe that the best way to measure academic
performance is to use an academic growth model that
quantifies the actual progress each child makes in a
school year. Since the 2008–2009 school year, K12 has
measured academic growth in its managed public schools
using the Scantron Performance Series—an independent,
computer-adaptive test in both reading and math that
students take in the fall, and then again in the spring of
the same academic year. We favor this approach because
the high percentage of new students each year, coupled
with the fact that so many students matriculate behind
grade level, make traditional state tests of limited use to
evaluate these schools.
Student academic growth in our managed public schools is
compared to the Scantron norm group, which is comprised
of thousands of students who represent national student
demographics. For the last two academic years, (2010–
2011 and 2011–2012), students
in K12-managed public
schools have consistently met or outperformed the
Scantron norm group gain in 94% of the grade levels in
Since we launched the company 12 years ago, more than
2,000 school districts have partnered with us to provide
curricula, services, and support for online and blended
learning programs. In that span, we have delivered more
than 4 million online course enrollments—including
credit recovery, world languages, Advanced Placement®,
electives, and core courses. This year, we expanded our
2012–2013 curriculum portfolio to nearly 700 online courses
and titles. Over the past decade, we have invested $305
million in curriculum and systems; and we will continue to
invest in new curriculum, technology, research, and learning
methodologies to ensure that we remain innovative and
can provide additional capabilities for our students and the
schools and school districts we serve.
In addition to bolstering our course catalog this year, we
continued to invest in, develop, and deliver new online
technologies, learning platforms, tools, and applications.
We introduced PEAK12, an innovative application that will
allow schools to implement, personalize, and manage their
district-wide online programs, including K12 and (coming
soon) third-party content on a single platform. This new
intelligent management system is another example of how
we partner with schools to provide a complete continuum
reading, and in 75% of the grade levels in math.
of online learning solutions.
“ At its core, K12 is a
partner to states,
districts, and schools
that want to offer
families effective
education choices.”
We also delivered more content that can be accessed
through multiple online marketplaces, such as iTunes,
Google Play, and Amazon, and unveiled a variety of new
applications for mobile phones and tablets. We also
launched 56 virtual labs and 35 e-books.
To help address the national problem of students
performing below grade level in math, we introduced the
National Math Lab program during the school year, a pilot
program designed to help students in grades 5–10 catch
up to grade level in math. Because first-year results were
promising, we are expanding the program for the 2012–
2013 school year to serve as many as 10,000 students.
Dubai Women’s College
High School Opens
Students attend school five days a week for a full day of
instruction, delivered in the classroom and online. The K12
curriculum includes a robust catalog of more than 130 core
This year, K12 helped launch the Dubai Women’s College High
and elective courses, including electives in subjects such as
School in the United Arab Emirates. Working together, K12’s
art, science, history, business/career, and technology that
Flex School Partnership and the Dubai Women’s College
are not available in area schools.
launched this innovative college prep high school that
prepares Middle Eastern teenage girls for the rigors of post-
secondary study.
Each student has his or her own computer— at no charge—
and takes courses
independently throughout the day.
Students learn at a flexible pace under the guidance and
The blended learning school includes Emirati courses taught
supervision of state-certified teachers. Those students
by Arabic-speaking teachers in traditional classrooms and
who need more support can go more slowly, while students
American courses taught in English using online curriculum
who are advanced in certain subjects can move ahead
from K12 International Academy. Students log in to the
more quickly. Students are also able to participate in
online school from dedicated computer learning labs, where
extracurricular clubs and social activities.
certified K12 teachers help guide students through the
interactive lessons and assessments via one-to-one chat,
e-mail, and Skype™ video.
Flex Academies Launched
Alexandria City Public Schools Opens
T.C. Satellite Campus
The T.C. Satellite Campus is the first comprehensive, non-
traditional satellite high school campus in Northern Virginia.
Opened this year, the Newark (NJ) Prep Charter School
The hybrid school offers the Aventa curriculum, flexible
offers the best of online learning with traditional onsite
scheduling,
internships, one-to-one
student-centered
education. This fast-growing blended, or hybrid, education
support, and a new pathway to graduation that fits the
model features engaging, individualized learning through
needs of a diverse group of students. K12 has worked closely
a combination of traditional classroom teachers, online
with Alexandria City Public Schools to develop the first of
curriculum, tools, and resources. The Newark school is now
many planned small satellite campuses, designed to meet
the third Flex Academy we have partnered with and helped
the needs of students who require additional schedule
launch in the last three years; the others are San Francisco
flexibility because of family or work obligations, students
Flex Academy and Silicon Valley Flex Academy.
who want to accelerate their learning and get to college
more quickly, and others who, for varied reasons, prefer not
to attend classes in a large high school setting.
Partnering with States, Districts, Schools, Parents, and Students
When we speak of modernizing the classroom, we are
that teachers are an essential part of a great education.
talking about improving the way students learn. To achieve
We will continue to invest and innovate so that teachers
this goal, we have invested hundreds of millions of dollars
and students have the tools they need to receive a world-
to develop rigorous curriculum, learning platforms, and
class education, regardless of geography, financial status,
technology-based instructional and assessment tools for
or demographic circumstances. The most exciting part of
teachers to use in schools.
this critical journey is that we are just beginning and we
“ We are a leading
innovator of technology-
based, personalized,
and individualized K–12
education—providing
each student with the
opportunity to maximize
his or her potential and
achieve academic success.”
believe the best is yet to come.
At its core, K12 is a partner to states, districts, and
schools that want to offer families additional, effective
education choices. As acceptance of online education
continues to increase, and as K12 continues to grow, those
threatened by choice and technology may continue to
oppose innovation. We will continue to demonstrate and
communicate the effectiveness of our products, services,
and educational solutions. We know technology, student
choice, and innovative companies are essential to ensuring
that all children have access to an education that allows
them to pursue and achieve their life aspirations in the
21st century. We will not rest until this becomes a reality.
Sincerely,
We are taking individualized learning further with “adaptive”
Nathaniel A. Davis
learning. Our product development team is working on
Chairman
cutting-edge adaptive applications that, for example,
deliver immediate feedback to students taking a test or
quiz, and then automatically adjust the next lesson to reflect
their competencies and deficits. MARK12 Reading is one
Ronald J. Packard
such product that has shown strong results in accelerating
Chief Executive Officer and Founder
learning for students behind grade level.
This year’s success and growth would not have been
possible without the collective drive and determination
of our more than 3,300 global employees, including the
thousands of teachers who deliver our curriculum. We
believe that education is fundamentally about children and
What Our Families Are Saying
Satisfaction Ratings
Awards
Parent
Satisfaction
97%
Student
Satisfaction
92 %
of K12 parents say their student
has benefitted academically
from the K12 curriculum 1
of K12 high school students
say they have benefitted
academically from the K12
curriculum 3
96 %
91%
of K12 parents say their
student has benefitted
academically from attending
their K12 school 2
of K12 high school students
say they have benefitted
academically from attending
their K12 school 4
Debunking the Social Myth
90%
of K12 high school students
participate in activities outside
of the home 5
98%
of K12 elementary virtual school
students rate their ability to
make friends as being better or
unchanged since becoming a
K12 student 6
Popular K12 high school student
activities include: 7
Extracurricular activities
62%
Church/religious studies
58%
Volunteering 29%
Community group work
12%
Distinguished Achievement Awards
Association of Educational Publishers
(Winners and Finalists 2006–2012)
BEST
Public Virtual School Solution
Software Information Industry
Association (2011 Finalist)
21st Century
BEST PRACTICES AWARD
U.S. Distance Learning
Association (2010)
THE LEADING PROVIDER
of K–12 Online Curriculum
to U.S. school districts
EdNet Insight (2012)
COLLEGE BOUND
Students at K12 partner schools
have been accepted at hundreds
of fine post-secondary institutions,
including: 8
Princeton University
University of Oxford
Columbia University
Stanford University
Duke University
Northwestern University
Brown University
Cornell University
New York University
1,2 K–8 and High School Parent Satisfaction surveys for K12 Virtual Academies, spring 2012
3,4 High School Student Satisfaction survey for K12 Virtual Academies, spring 2012
5,7 K12 2011 National Programs survey, grades 6–12
6 IESD: Evaluation of the Social Skills of Full-Time, Online Public School Students in grades 2,4,6, May 2009
8 Based on student responses from annual K12 senior surveys and matriculation data, 2010–2012
University of California at Berkeley
The Juilliard School
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
(cid:1) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
(cid:2) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended June 30, 2012
For the transition period from
to
Commission file number 001-33883
K12 Inc.
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of
incorporation or organization)
2300 Corporate Park Drive
Herndon, VA 20171
(Address of principal executive offices) (Zip Code)
Securities registered pursuant to Section 12(b) of the Act:
95-4774688
(I.R.S. Employer
Identification No.)
(703) 483-7000
(Registrant’s telephone number, including area code)
Title of each class
Name of each exchange on which registered
Common Stock, $0.0001 par value
New York Stock Exchange (NYSE)
Securities registered pursuant to Section 12(g) of the Act:
None
(Title of Class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act.
Yes (cid:2) No (cid:1)
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes (cid:2) No (cid:1)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes (cid:1) No (cid:2)
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any,
every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such
files). Yes (cid:1) No (cid:2)
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein,
and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-K or any amendment to this Form 10-K. (cid:2)
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a
smaller reporting company. See the definitions of ‘‘large accelerated filer,’’ ‘‘accelerated filer’’ and ‘‘smaller reporting company’’
in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer (cid:2)
Smaller reporting company (cid:2)
Accelerated filer (cid:1)
Non-accelerated filer (cid:2)
(Do not check if a
smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes (cid:2) No (cid:1)
The aggregate market value of the registrant’s voting and non-voting stock held by non-affiliates of the registrant as of
December 31, 2011 was approximately $404,679,000. Aggregate market value excludes an aggregate of approximately 18,004,000
shares of common stock held by officers and directors and by each person known by the registrant to own 5% or more of the
outstanding common stock on such date. Exclusion of shares held by any of these persons should not be construed to indicate
that such person possesses the power, direct or indirect, to direct or cause the direction of the management or policies of the
registrant, or that such person is controlled by or under common control with the registrant.
The number of shares of the registrant’s common stock outstanding as of September 7, 2012 was 36,844,093.
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the registrant’s definitive proxy statement for its 2012 annual meeting of stockholders to be filed pursuant to
Regulation 14A with the Securities and Exchange Commission not later than 120 days after the registrant’s fiscal year ended
June 30, 2012, are incorporated by reference into Part III of this Form 10-K.
TABLE OF CONTENTS
PART I . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 1.
Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 1A. Risk Factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 1B. Unresolved Staff Comments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Properties . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 2.
Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 3.
Mine Safety Disclosures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 4
PART II . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Selected Financial Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 6.
ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk . . . . . . . . . . . . . . . .
Financial Statements and Supplementary Data . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 8.
Changes In and Disagreements with Accountants on Accounting and Financial
ITEM 9.
Disclosure . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 9A. Controls and Procedures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 9B. Other Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
PART III . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 10. Directors, Executive Officers and Corporate Governance . . . . . . . . . . . . . . . . . . .
ITEM 11. Executive Compensation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 12.
Security Ownership of Certain Beneficial Owners, Management and Related
Stockholder Matters . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 13. Certain Relationships, Related Transactions and Director Independence . . . . . . . .
Principal Accounting Fees and Services . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 14.
PART IV . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
ITEM 15. Exhibits, Financial Statement Schedules . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1
1
29
44
44
45
45
46
46
49
53
77
78
115
115
119
119
119
119
119
119
119
120
120
INDEX TO EXHIBITS
EX-21.1
EX-23.1
EX-31.1
EX-31.2
EX-32.1
EX-32.2
101.INS
101. SCH
101. CAL
101. LAB
101. PRE
101. DEF
XBRL Instance Document
XBRL Taxonomy Extension Schema
XBRL Taxonomy Extension Calculation
XBRL Taxonomy Extension Labels
XBRL Taxonomy Extension Presentation
XBRL Taxonomy Extension Definition
i
CERTAIN DEFINITIONS
Unless the context requires otherwise, all references in this Annual Report on Form 10-K (the
‘‘Annual Report’’) to ‘‘K12,’’ ‘‘K12,’’ ‘‘Company,’’ ‘‘we,’’ ‘‘our’’ and ‘‘us’’ refer to K12 Inc. and its
consolidated subsidiaries.
SPECIAL NOTE ON FORWARD-LOOKING STATEMENTS
This Annual Report contains forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995 that involve substantial risks and uncertainties. All statements
other than statements of historical facts contained in this Annual Report on Form 10-K are forward-
looking statements. We have tried, whenever possible, to identify these forward-looking statements
using words such as ‘‘anticipates,’’ ‘‘believes,’’ ‘‘estimates,’’ ‘‘continues,’’ ‘‘likely,’’ ‘‘may,’’ ‘‘opportunity,’’
‘‘potential,’’ ‘‘projects,’’ ‘‘will,’’ ‘‘expects,’’ ‘‘plans,’’ ‘‘intends’’ and similar expressions to identify forward
looking statements, whether in the negative or the affirmative. These statements reflect our current
beliefs and are based upon information currently available to us. Accordingly, such forward-looking
statements involve known and unknown risks, uncertainties and other factors which could cause our
actual results, performance or achievements to differ materially from those expressed in, or implied by,
such statements. These risks, uncertainties, factors and contingencies include, but are not limited to:
(cid:127) the reduction of per pupil funding amounts at the schools we serve;
(cid:127) failure of the schools we serve to comply with regulations resulting in a loss of funding or an
obligation to repay funds previously received;
(cid:127) reputation harm resulting from poor performance or misconduct by operators in any school in
our industry and in any school in which we operate;
(cid:127) legal and regulatory challenges from virtual and blended public school opponents;
(cid:127) discrepancies in interpretation of legislation by regulatory agencies that may lead to payment or
funding disputes;
(cid:127) termination of our contracts with schools due to a loss of authorizing charter;
(cid:127) failure to enter into new contracts or renew existing contracts with schools;
(cid:127) risks associated with entering into and successfully integrating mergers, acquisitions and joint
ventures;
(cid:127) our potential inability to further develop, maintain and enhance our technology, products,
services and brands;
(cid:127) inability to recruit, train and retain quality teachers and employees;
(cid:127) infringement of our intellectual property; and
(cid:127) new market entrants and competitive technologies.
Forward-looking statements reflect our management’s expectations or predictions of future
conditions, events or results based on various assumptions and management’s estimates of trends and
economic factors in the markets in which we are active, as well as our business plans. They are not
guarantees of future performance. By their nature, forward-looking statements are subject to risks and
uncertainties. Our actual results and financial conditions may differ, possibly materially, from the
anticipated results and financial conditions indicated in these forward-looking statements. There are a
number of factors that could cause actual conditions, events or results to differ materially from those
described in the forward-looking statements contained in this Annual Report. A discussion of factors
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that could cause actual conditions, events or results to differ materially from those expressed in any
forward-looking statements appears in ‘‘Part 1—Item 1A—Risk Factors.’’
Readers are cautioned not to place undue reliance on forward-looking statements in this Annual
Report or that we make from time to time, and to consider carefully the factors discussed in ‘‘Part 1—
Item 1A—Risk Factors’’ of this Annual Report in evaluating these forward-looking statements. These
forward-looking statements are representative only as of the date they are made, and we undertake no
obligation to update any forward-looking statement as a result of new information, future events or
otherwise.
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ITEM 1. BUSINESS
Company Overview
PART I
We are a technology-based education company. We offer proprietary curriculum, software systems
and educational services designed to facilitate individualized learning for students primarily in
kindergarten through 12th grade, or K-12. Our mission is to maximize a child’s potential by providing
access to an engaging and effective education, regardless of geographic location or socio-economic
background. Since our inception, we have invested more than $305 million to develop and, to a lesser
extent, acquire curriculum and online learning platforms that promote mastery of core concepts and
skills for students of all abilities. K12 provides a continuum of technology-based educational products
and solutions to districts, public schools, private schools, charter schools and families as we strive to
transform the educational experience into one that delivers individualized education on a highly
scalable basis.
As an innovator in K-12 online education, we believe we have attained distinctive core
competencies that allow us to meet the varied needs of online public schools, school districts, states,
private schools and individual learners. These core competencies include our ability to create engaging
curriculum, train teachers to be effective in online instruction, provide turn-key management services to
online schools, customize online learning programs for school districts, develop innovative new offerings
(such as our Flex schools and National Math Lab) and assist legislators and policy makers in
understanding the many benefits of online learning to complement and transform traditional schools.
These strengths enable us to provide a unique set of products and services primarily to three lines of
business that share many common attributes, including, curriculum, learning systems, management
expertise, logistical systems and marketing. These businesses are: Managed Public Schools (turn-key
management services provided to public schools), Institutional Business (educational products and
services provided to school districts, public schools and other educational institutions that we do not
manage), and International and Private Pay Business (private schools for which we charge student
tuition and make direct consumer sales).
Managed Public Schools
Institutional Business
International and Private Pay Business
(cid:127) Full-time virtual schools
(cid:127) Blended schools
—Flex schools
—Passport schools
—Discovery schools
—Other blended schools
(cid:127) K12 curriculum
(cid:127) Aventa curriculum
(cid:127) A+ curriculum
(cid:127) Middlebury joint venture —K12 International Academy
(cid:127) Pre-kindergarten
(cid:127) Post-secondary
(cid:127) Managed private schools
—The Keystone School
— George Washington University Online HS
—IS Berne
(cid:127) WEB (via investment)
(cid:127) Independent course sales (Consumer)
(cid:127) Managed Public Schools.
Virtual Public Schools. The majority of our revenue is derived from virtual public schools that
we manage. In addition to access to our course catalog, course materials and, in certain cases,
student computers, we provide these schools with a variety of management, technology and
academic support services. In full-time virtual managed schools, students receive online lessons
over the Internet and utilize offline learning materials we provide. The full-time virtual schools
we manage are generally associated with different curricula and orientations. K12 managed
schools (often named virtual acadamies) serve K-8 or K-8 and high school students, principally
utilize K12 curriculum, and attract both mainstream and at-risk students. In addition to these
virtual academies, we manage Insight schools, which serve middle school and high school
students, typically utilize the Aventa curriculum and tend to attract at-risk students. iQ
Academies serve middle school and high school students, primarily utilize the Aventa
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curriculum, and are generally only partially managed by K12—typically, the academic program
and regulatory compliance for iQ Academies are managed by their host school or school district.
Blended Public Schools.
our products and services to blended schools (sometimes referred to as hybrid schools), which
are public schools that combine online and face-to-face instruction in many different
arrangements with varying amounts of time spent in a physical learning center.
In addition to our full-time virtual programs, we also manage and sell
For both virtual and blended managed schools, we generally take responsibility for all aspects of
the management of the schools, including monitoring academic achievement, teacher recruitment
and training, compensation recommendations for school personnel, financial management,
enrollment processing and procurement of curriculum, equipment and other required services.
Funding is provided primarily by state governments. For the 2012-13 school year, we will provide
turn-key management services to Managed Public Schools in 32 states and the District of
Columbia.
(cid:127) Institutional Business. We work closely as partners with a growing number of districts and
schools, enabling them to offer their students an array of online education solutions, including
full-time virtual and blended programs, semester courses and supplemental solutions. In addition
to curriculum, systems and programs, we also provide teacher training, teaching services and
other support services. These institutions include public schools, school districts, private schools,
charter schools and early childhood learning centers. Additionally, we operate a joint venture
with Middlebury College, known as Middlebury Interactive Languages LLC (‘‘MIL’’), to develop
and market online foreign language courses. For the 2011-12 school year, we served school
districts or individual schools in all 50 states and the District of Columbia, including those where
the regulatory environment restricts or prohibits state-wide online programs.
(cid:127) International and Private Pay Business. We operate three online private schools: The Keystone
School, the K12 International Academy and the George Washington University Online High
School. We also manage a foreign brick and mortar private school (International School of
Berne) and have entered into agreements which enable us to distribute our products and
services to over 1,000 school partners throughout the world. We serve students from 85 countries
around the world. We also are pursuing international opportunities where we believe there is
significant demand for a quality online education; our principal customers are expatriate families
and foreign students who wish to study in English. Additionally, our curriculum is sold to end
user customers who desire to educate their children outside of the traditional school system or
to supplement their child’s traditional education.
To support the growing demand for K-12 online education, we completed several strategic
acquisitions since 2010 to expand our product line, primarily in our Institutional and Private Pay
businesses, and to gain greater scale across our operations. Given our rapid growth, we have begun to
make significant capital investments in our infrastructure, including most recently the core for a
company-wide enterprise resource planning (‘‘ERP’’) system, a second data center, and an upgrade to
our customer relationship management (‘‘CRM’’) system. As we continue to leverage our core
competencies and integrate our acquisitions, we believe we are well positioned to drive and manage the
substantial growth we have experienced since our first year as a public company when we achieved
revenues of $141 million for the fiscal year ended June 30, 2007. Since fiscal year 2010, our revenues
have increased from $384 million to $708 million, representing growth of 84% over two years.
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Our Market
The U.S. market for K-12 education is large and the acceptance of online learning continues to
grow. For example:
(cid:127) According to the National Center for Education Statistics (‘‘NCES’’), a division of the U.S.
Department of Education, approximately 49.5 million students attended K-12 public schools
during the 2010-11 school year. In addition, according to National Home Education Research,
approximately two million students are home schooled and, according to the NCES,
approximately six million students are enrolled in private schools. Many of these students will
take an online course and a small percentage will enroll in a full-time online program.
(cid:127) According to the NCES, the public school system alone encompassed more than 98,000 schools
and approximately 13,900 districts during the 2010-11 school year.
(cid:127) The NCES estimates that total spending in the K-12 market was $650 billion for the 2008-09
school year.
(cid:127) According to the International Association for K-12 Online Learning (‘‘iNACOL’’), as of August
2010, 48 states had established a significant form of online learning initiative. In addition,
according to Ambient Insight, an international market research firm, in 2011, 1.68 million K-12
students participated in a formal online learning program.
Many parents and educators are seeking alternatives to traditional classroom-based education for a
variety of reasons. Demand for these alternatives is evident in the expanding number of choices
available to parents and students. For example, public charter schools emerged in 1988 to provide an
alternative to traditional public schools and, according to the Center for Education Reform, have grown
by 230% since 2001. Currently, there are over 5,000 charter schools operating in 41 states and the
District of Columbia with an estimated enrollment of over 1.9 million students according to the Center
for Education Reform. Similarly, acceptance of online learning initiatives, including not only virtual and
blended public schools, but also online courses, credit recovery, remediation, testing and Internet-based
professional development, has continued to grow. Districts are also rapidly adopting online learning to
expand course offerings, provide schedule flexibility, increase graduation rates and lower the cost to
deliver education.
Demand for Education Alternatives: The Market Opportunity and the K12 Solutions
As evidenced by the varying options being utilized by K-12 students, no single educational model
works equally well for all students. Children today utilize technology in all aspects of their lives and we
expect them to extend their use of technology to their educational needs and choices. Our business is
modeled on the premise that every student has the right to an education that is individualized,
personalized and, available anywhere at any time. We also believe all students can benefit from more
rigorous and engaging content.
We believe that full-time virtual schools will meet the needs of a small percentage of the overall
K-12 student population, but do represent and will continue to represent a large and growing
opportunity in absolute terms. Across our educational programs, families come from a broad range of
social, economic and academic backgrounds. They share the desire for individualized instruction to
maximize their children’s potential. Examples of students for whom this solution fits include, but are
not limited to, families with: (i) students seeking to learn faster or slower than they could in a ‘‘one
size fits all’’ traditional classroom; (ii) students with safety, social and health concerns about their local
school; (iii) students with disabilities who are underserved in traditional classrooms; (iv) students for
whom the local public school is not meeting their needs; (v) students who need flexibility, such as
student-athletes and performers who are not able to attend regularly-scheduled classes; (vi) college-
bound students seeking to bolster their college readiness and application appeal by taking additional
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Advanced Placement, honors and/or elective courses; (vii) high school dropouts; (viii) students of
military families who desire high quality, consistent education across moves; and (ix) students for whom
their current school option is otherwise not working. Our individualized learning approach allows
students to optimize their educational experience and, therefore, their chances of achieving their goals.
The schools we manage, both public and private, which generated the majority of our revenue
(approximately 84% in fiscal 2012), serve this demand.
We believe that the majority of students in the United States will continue to be educated in
school buildings, although we further believe that the academic benefits for many students and the
significant savings for taxpayers will continue to drive states and districts to incorporate online solutions
into their school-based programs. One of the challenges the traditional schools continue to face is
adoption of technology and innovative new learning modalities. In our Institutional Business, we offer a
complete solution for districts and schools that need a turn-key option and also offer online curriculum
and services on a solutions-oriented, individualized basis for those customers who need less than a
full-service offering. We believe this range of options creates the opportunity for us to serve the
majority of students who will learn within school buildings. Therefore, we have invested significant
resources, organically and through acquisitions, in developing product offerings that afford us the
flexibility to serve different types of customers with varying value propositions and price points that are
adaptable to an institution’s capabilities and needs. We have and will continue to pursue selected
markets outside the United States where we believe our curricula can address local market needs.
We believe that our core competencies, coupled with the significant investments we have made in
our infrastructure and our strategic acquisitions and partnerships, position us to offer educational
resources for all types of students. Regardless of whether a student chooses to remain in a classroom or
seeks an alternative setting, attends public or private school, lives in the United States or abroad, wants
to take online classes on a full or part-time basis or is an advanced or remedial student, our products
and services offer students expanded educational opportunities.
Our Business Lines
Managed Public Schools
Virtual Public Schools
The majority of our revenue is derived from full-time virtual public schools that we manage. In
addition to access to our course catalog, course materials and, in certain cases, student computers, we
provide these schools with a variety of management, technology and academic support services. In
full-time virtual managed schools, students receive online lessons over the Internet and utilize offline
learning materials we provide. Students receive assignments, complete lessons, and obtain instruction
from certified teachers with whom they interact online, telephonically, in virtual classroom
environments, and sometimes face-to-face. For parents who believe their child is not thriving in their
current public school or for students and families who require time or location flexibility in their
schooling, virtual and blended public schools can provide a compelling choice.
Students are also provided the opportunity to participate in a wide variety of school activities,
including outings and clubs. In addition to school-level activities, we sponsor a wide variety of
extracurricular activities on a national basis, such as clubs, contests and college and career planning
sessions.
The full-time virtual schools we manage are generally associated with different curricula and
orientations. K12 managed schools (often named virtual acadamies) serve K-8 or K-8 and high school
students, principally utilize the K12 curriculum and attract both mainstream and at-risk students. In
addition to these virtual academies, we manage Insight schools, which serve middle school and high
school students, typically utilize the Aventa curriculum, and tend to attract at-risk students. iQ
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Academies serve middle school and high school students, primarily utilize the Aventa curriculum, and
are generally only partially managed by K12—typically, the academic program and regulatory
compliance for iQ Academies are managed by their host school or school district.
Blended Public Schools
In addition to our full-time virtual programs, we also manage and sell our products and services to
blended schools (sometimes called hybrid schools), which are public schools that combine online and
face-to-face instruction for students in many different arrangements. For the 2012-13 school year, we
expect to manage blended schools in California, Hawaii, Illinois, Indiana and New Jersey.
In contrast to a typical brick and mortar public school, blended schools can provide a greater
selection of available courses, increased opportunities for self-paced, individualized instruction and
greater scheduling flexibility. We manage four types of blended schools, which bring students and
teachers physically together more often than a purely online program. In the hybrid schools we
manage, students attend a learning center on a part-time basis, where they receive direct instruction.
Additionally, our Flex model is a unique blended school model we first launched in the fall of
2010. In this program, middle and high school students attend a learning center five days a week and
access and engage in their individualized online lessons in an open study lab while receiving
face-to-face direct instruction in areas of particular need. Flex schools leverage many of the capabilities
of a virtual school with the advantages of a physical school environment.
Another type of blended school option is the Passport program, which utilizes a similar basic
instructional model as a Flex school and is designed for at-risk students, particularly those who have
previously dropped out of high school, and therefore includes more counseling and support services.
Due to the reality that many Passport students have work and/or child care responsibilities, most
students spend half of each day on-site and complete the remainder of their work online.
We have also piloted select grades and subjects of our curriculum in traditional brick and mortar
classrooms in many states through our Discovery programs. These programs utilize an interactive
whiteboard with our curriculum and emphasize our math and science courses. For these schools, we
also provide intensive professional development for the school’s teachers and work closely with the
school’s principal.
For the 2012-13 school year, we will provide turn-key management services to Managed Public
Schools in 32 states and the District of Columbia. For most of these schools, we take responsibility for
all aspects of the management of the schools, including monitoring academic achievement, teacher
recruitment and training, compensation of school personnel, financial management, enrollment
processing and procurement of curriculum, equipment and other required services. Managed Public
Schools accounted for approximately 84% of our revenue in fiscal year 2012.
Institutional Business
Public schools and school districts are increasingly adopting online solutions to cost-effectively
expand course offerings, provide schedule flexibility, improve student engagement, increase graduation
rates, replace textbooks and retain students. To address these growing needs, we provide curriculum
and technology solutions, packaged in a portfolio of flexible learning and delivery models mapped to
specific student and/or district needs. This portfolio provides a continuum of delivery models, from full
and part-time virtual, to blended learning and other options that can be used in traditional classrooms
to differentiate instruction. Our catalog contains solutions to address specific student needs, including
Advanced Placement, honors, world languages, remediation, credit recovery, alternative education,
career and technology electives and college readiness. We also provide highly qualified state-certified
teachers, professional development and other support services as needed by our customers.
5
In addition to providing a vast array of online learning solutions, we recently launched a system
called Personalize, Engage and Achieve with K12 (‘‘PEAK12’’), designed to centrally manage multiple
online solutions across a school or district through one application. PEAK12 enables teachers and
administrators to personalize online learning solutions for their students by leveraging all curricula
across all supported solutions. PEAK12 currently supports the majority of the K12 curriculum portfolio
and will eventually support not only all K12 content, but also other third-party solutions, open
educational resources and district and teacher-created content. For students, teachers and
administrators, PEAK12 eliminates the complexity of managing multiple accounts and roles and will
provide a consistent online environment for full-time, credit recovery, world languages classes or
blended classroom programs. We believe increasing ease-of-use for administrators and teachers is a
critical factor in improving student support and therefore, improving student outcomes. PEAK12
addresses this need by serving all of the online instructional needs of a school or district in an
integrated, data-driven manner.
During the 2011-12 school year, we continued to expand our direct and indirect sales network and
have provided nearly all sales representatives the ability to sell all solutions in the K12 portfolio,
including the original K12 solutions as well as the Aventa, A+ and MIL product lines. We have also
expanded our customer services team to support our growing relationships and employ teachers across
the United States to serve students and train school administrators and teachers.
For the 2011-12 school year, we served school districts or individual schools in all 50 states and the
District of Columbia, including those where the regulatory environment restricts or prohibits state-wide
online programs. Based upon school districts’ and academic administrators’ growing acceptance of
online learning and desire for cost efficient, integrated and flexible educational solutions, we believe
that the direct-to-district distribution channel offers further significant growth potential.
We provide online services to post-secondary institutions through our Capital Education subsidiary,
which offers programs designed for colleges and universities seeking to broaden their reach and build
or expand their online presence by leveraging our extensive catalog of over 200 higher education
courses. Services include course development and distribution through a proprietary learning
management platform, hosting and technical support, student advisory services and program
administration. We currently provide services for multiple programs at four colleges and universities in
the United States. We will continue to add programs for existing customers and add new customers
over the coming years to not only serve higher education, but also expand higher education
opportunities for high school students in our public and private virtual programs. We also deliver our
curriculum to address the remediation needs of higher education institutions through a partnership with
Blackboard Inc.
International and Private Pay Business
Where publicly-funded online schools are not authorized or available, we operate private online
schools. We also sell individual online courses directly to families. Beyond our business in the United
States, we are pursuing international opportunities where we believe there is significant demand for a
quality online education. Our principal private school customers are expatriate families and foreign
students who desire a U.S. diploma and wish to study in English. We maintain a regional presence in
Switzerland, Dubai and Singapore. During fiscal year 2012, we served almost 30,000 students in 85
countries. In addition, we have entered into agreements which enable us to distribute our products and
services to over 1,000 school partners in foreign countries. These institutions use our courses to provide
international—dual diploma programs.
We operate the K12 International Academy, an online private school that serves students in both
the United States and overseas. Through the K12 International Academy, students may study in an
academic program that ultimately leads to an accredited U.S. high school diploma. Students may also
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enroll in individual courses on a part-time basis. The K12 International Academy utilizes the same
curriculum, systems and teaching practices that we provide to the virtual public schools we manage in
the United States. In addition, this school provides a unique international community including clubs
and events that enrich the student experience by allowing students to interact with peers in other
countries. The school is accredited by the Southern Association of Colleges and Schools and
AdvancED, and is recognized by the Commonwealth of Virginia as a degree granting institution of
secondary learning.
The Keystone School (‘‘Keystone’’) is a private school that has been an innovator in home
education and distance learning for over 35 years. Students attend The Keystone School for middle and
high school on a full or part- time basis. Keystone has served over 250,000 students through online
courses with teacher support as well as print correspondence course programs. Keystone uses our
Aventa curriculum and provides a lower-cost option to families than either of our other two private
schools. It is accredited by the Northwest Association of Accredited Schools.
The George Washington University Online High School is operated in cooperation with the
George Washington University. The program, which launched in 2011-12 school year, offers K12’s
college preparatory curriculum and is designed for high school students who are seeking a challenging
academic experience and aspire to attend top colleges and universities. The school also provides
extensive counseling throughout the high school years to help students make academic and
extracurricular choices and maximize their future potential.
In April 2011, we acquired the operations of the International School of Berne (‘‘IS Berne’’), a
traditional school located in Berne, Switzerland, one of the 200 International Baccalaureate (‘‘IB’’)
institutions serving students in grades Pre-K through 12. IS Berne is in its 50th year of operations and
had an 89% pass rate on the International Baccalaureate diploma exam among its high school seniors
during the 2011-12 school year.
Consumer Sales
Our curriculum is sold directly to customers who desire to educate their children outside of the
traditional school system or to supplement their child’s existing public school education. Customers of
our consumer product have the option of purchasing a complete grade-level curriculum or individual
subjects depending on their child’s needs. Typical applications include summer school course work,
home schooling and educational supplements.
Our Growth Strategy
Our growth strategy consists of leveraging the investments we have already made in our curriculum
and learning systems, as well as the tremendous expertise we have developed in online learning and
school management, to serve adjacent markets and to diversify our risk profile. This strategy is aligned
with the way the education industry is expected to evolve and consists of the following components:
Increase Enrollments at Existing Virtual and Blended Public Schools through Greater Penetration and
In the 2012-13 school year, we will manage virtual and blended
Removal of Enrollment Restrictions.
public schools in 32 states and the District of Columbia. We plan to continue to drive increased
enrollments at these schools. In a number of states where we contract with virtual and blended public
schools, regulations limit student enrollment or enrollment growth. We intend to work with schools,
legislators, state departments of education, educators and parents to find solutions that will remove
enrollment restrictions and allow access for every child who is interested in attending a virtual or
blended public school.
Expand Virtual and Blended Public School Presence into Additional States and Cities. The flexibility
and comprehensiveness of our learning systems allows us to efficiently adapt our curriculum to meet
7
the individual educational standards of any state with minimal capital investment. We will continue to
work with states to establish virtual and blended public schools and to contract with them to provide
our curriculum, online learning platform, management services, and other related offerings.
Accelerate Institutional Business Sales. We have increased our distribution capacity to schools and
school districts by hiring additional sales representatives, acquiring a sales team through our acquisition
of KC Distance Learning (‘‘KCDL’’) and acquiring distributor relationships through our acquisition of
The American Education Corporation (‘‘AEC’’). We have combined these resources to increase sales to
our Institutional Business customers.
Add Enrollments in Our Private Schools. We currently operate three online private schools that we
believe appeal to a broad range of students and families. We look to drive increased enrollments in
these schools by increasing awareness and through targeted marketing programs.
Pursue International Opportunities to Offer Our Learning Systems. We believe there is strong
worldwide demand for high-quality, online education from U.S. families living abroad and foreign
students who seek a U.S.-style of education, and the schools and school systems that serve them in
their local market. Our ability to operate virtually is not constrained by the need for a physical
classroom or local teachers, which makes our learning systems ideal for use internationally.
Develop Additional Channels through Which to Deliver Our Learning System. We plan to evaluate
other delivery channels on a routine basis and to pursue opportunities where we believe there is likely
to be significant demand for our offering, such as direct classroom instruction, blended classroom
models, supplemental educational offerings and individual products packaged and sold directly to
consumers.
Pursue Strategic Partnerships and Acquisitions. As with our joint venture with Middlebury College,
we intend to pursue opportunities with other highly-respected partners where we can be a valued-added
partner or contribute our expertise in curriculum development and educational services to serve more
students. We will also pursue selective acquisitions at attractive valuations that complement our existing
educational offerings and business capabilities, and that are natural extensions of our core
competencies.
Expand Product Line. We intend to continue to expand our product line and offerings, both
organically and through strategic acquisitions of product portfolios.
Products and Services
Educational Philosophy
Our focus remains on offering best-in-class solutions for our customers at each entry point in the
market. Our acquisition of several product portfolios during the last few years has allowed us to expand
the number and nature of market entry points. As we continue to integrate these portfolios into our
content management system, we will upgrade them so that they embody the relevant aspects of our
educational philosophy and guiding principles. We intend to continue to leverage these portfolios across
our educational solutions and distribution channels.
The design, development and delivery of our products and services is grounded in the following set
of guiding principles:
(cid:127) Apply ‘‘Tried and True’’ Educational Approaches for Instruction through Technology; Employ
Technology Appropriately to Deliver and Enhance Those Approaches. Our learning systems are
designed to utilize both ‘‘tried and true’’ methods to drive academic success. ‘‘Tried’’
methodologies are those that have been experientially tested and proven to be effective. ‘‘True’’
methodologies are those based on more recent cognitive research regarding the way in which
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individuals learn. ‘‘Tried’’ methodologies employed by K12 must also pass through the ‘‘true’’
litmus test; the two criteria are not antagonistic. This ‘‘tried and true’’ philosophy allows us to
benefit from both decades of research about learning and over a century of published analysis of
effective methods of teaching.
(cid:127) Employ Technology Appropriately for Learning. All of our courses are delivered primarily through
an online platform and generally include a significant amount of online content. We employ
technology where we feel it is appropriate and can enhance the learning process. In addition to
online content, our curriculum includes a rich mix of course materials, including engaging
textbooks and hands-on materials such as instructional kits, scientific and musical instruments,
art supplies and science specimens. Furthermore, our teachers utilize telephonic contact as well
as email and virtual electronic classrooms. We believe our balanced use of technology and more
traditional approaches helps to maximize the effectiveness of our learning systems.
(cid:127) Base Learning Objectives on ‘‘Big Ideas;’’ Assess Every Objective to Ensure Mastery. We use the
expression ‘‘big ideas’’ for the key, subconscious frameworks that serve as the foundation to a
student’s future understanding of a subject matter. For example, an understanding of waves is
fundamental to a physicist’s understanding of quantum mechanics; for that reason, we teach
1st graders the fundamentals of waves in an age-appropriate form. We use ‘‘big ideas’’ in every
subject area to organize the explicit learning objectives for each course we develop.
(cid:127) Assess Every Objective to Ensure Mastery. Ongoing assessments are the most effective way to
evaluate a student’s mastery of a lesson or concept. To facilitate effective assessment, our
curriculum states clear objectives for each lesson. Throughout a course, every student’s progress
is assessed at a point when each objective is expected to be mastered, providing direction for
appropriate pacing. These periodic and well-timed assessments reinforce learning and promote
mastery of a topic before a student moves to the next lesson or course.
(cid:127) Individualized Learning. We create engaging curriculum content with the purpose of capturing
the student’s attention to make learning more interesting and effective.
(cid:127) Prioritize Important, Complex Objectives. Our content experts have developed a clear
understanding of those subjects and concepts that are difficult for students, from both historical
and cognitive points of view (that is, from both the ‘‘tried’’ and the ‘‘true’’ perspective described
earlier). Greater instructional effort is focused on the most important concepts (the biggest
ideas) and on the most challenging concepts and skills (as revealed by experience and research).
We use existing research, feedback from parents and students, and experienced teacher
judgments to determine these priorities and to modify our learning systems to guide the
allocation of each student’s time and effort.
(cid:127) Facilitate Flexibility to Accommodate Variations in Ability. We believe that each student should be
challenged appropriately, where ‘‘challenge’’ is both a matter of the difficulty inherent in the
subject matter, and also the pace at which the subject matter is presented. Generally, adequate
progress for most students is to complete one academic year’s curriculum within a nine-month
school year. Each individual student may take greater or fewer instructional hours and make
more or less effort than the average student to achieve this progress. Our learning systems are
designed to facilitate this flexibility in order to ensure that the appropriate amount of time and
effort is allocated to each lesson.
(cid:127) Ensure Fundamental Content Soundness. Our credentialed subject matter experts (‘‘SMEs’’) or
‘‘Content Specialists’’ bring their own scholarly and teaching backgrounds to course design and
development and are required to maintain relationships with and awareness of guidelines from
nearly 40 national and international subject-area associations.
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(cid:127) Integrate Curriculum, Teachers and Technology to Maximize Student Learning. We believe students
learn better not just with great curriculum, but also great teachers and technology that allows
them to access the content and teachers in a way that makes learning more engaging and
effective.
Academic Performance
We have made significant efforts to use an academic growth model in the Managed Public Schools
so we can adequately evaluate learning gains, which we consider to be a more accurate measure of
school effectiveness than the proficiency measures generally used to assess Adequate Yearly Progress
(AYP) under the No Child Left Behind Act. Because most state proficiency tests do not appropriately
measure individual student gains, it is very difficult to assess the academic success of schools with high
enrollment growth rates, high student mobility and a high percentage of new students each year who
enter behind grade level. To meet that challenge, K12 uses nationally-normed computer adaptive tests
provided by Scantron, an independent provider of web-based assessments to K-12 schools. Over 70% of
the students enrolled in the Managed Public Schools complete the Scantron tests both at the beginning
and end of the school year from their home computer, and a third-party expert has analyzed our test
data and confirmed that it is consistent with the national Scantron test results.
The Scantron test allows us to measure a student’s academic level when entering a managed
program and after completion of each school year, thus measuring the academic growth that the
student has actually achieved. We are then able to compare the growth data of students in K12
managed schools with that of the national norm group, which enables us to evaluate the performance
of our schools against a national comparison group. We also use Scantron growth scores to study the
effectiveness of specific instructional initiatives within the managed schools in an effort to continually
improve instruction. On average, the academic growth data demonstrates that students in the Managed
Public Schools meet or exceed the gains of the national norm group in the majority of grade levels in
both math and reading, as measured by Scantron. K12 plans to continue to invest in research on
academic performance and to obtain more detailed performance data for our managed programs in an
effort to better understand the students we serve and to improve the efficacy of our programs in the
schools we manage.
Our Products
Since 2000, our mission has been to invest in systems and technology to educate students more
effectively and efficiently. To date, we have invested $305 million in our curriculum and learning
systems. It is our expectation that these investments will help states, districts and schools improve the
education of their students.
Much of this investment has been in the development of K-12 online courses and management
systems. Most recently, we have begun to develop specialized courses and programs designed to
remediate the rapidly increasing number of students who are enrolling in schools behind grade level.
Specifically, we are creating even more individualized learning programs for students using adaptive
learning technology, which requires a significant investment to develop a specialized curriculum and a
complex database.
As school districts confront the same issues that we are experiencing in the Managed Public
Schools, we believe that our solutions could gain widespread acceptance. During the past few fiscal
years, we built a new K-6 math curriculum and a remedial reading course, both based on the latest
educational research and pedagogical methods. In fiscal year 2012, we launched the PEAK12 system
which provides school districts and administrators a better way to manage their online education
programs and content.
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Just as we pioneered the development of virtual schools, we are resolved to address the most
challenging educational needs facing schools and districts. Our goal is to assist teachers, schools and
districts in implementing individualized education programs to better serve their students. This can take
a variety of forms including turn-key solutions, partnerships, vendor relationships, enterprise licenses,
and purchases of curriculum and services.
Our investment strategy is not limited, however, to curriculum and systems. We are also making
substantial investments in our service offerings to improve student outcomes. For example, we
developed a National Math Lab that offers supplemental online instruction to students in need of
remediation in math. We piloted this program during the 2011-12 school year, and the initial
performance data is promising. We are planning to expand and improve the National Math Lab to
make it even more valuable to students. Additionally, we will continue to invest in professional
development programs to train our teachers and educators.
Curriculum
K12 has the largest digital curriculum portfolio for the K-12 online education industry. The K12
curriculum consists of online lessons, offline instructional kits and materials, and lesson guides and
other ancillaries. We offer an extensive catalog of proprietary courses designed to teach concepts to
students from pre-kindergarten through 12th grade, as well as curriculum for use in post-secondary
online programs. A single year-long K12 course generally consists of 120 to 180 unique instructional
lessons. Each lesson is designed to last approximately 45 to 60 minutes, although students are able to
work at their own pace. With the acquisition of the curriculum portfolios of KCDL (Aventa), AEC
(A+) and Kaplan Virtual Education (‘‘KVE’’), as well as the MIL joint venture, we now have nearly
700 courses across kindergarten, elementary, middle and high school, including world languages. This
combined portfolio contains over 100,000 hours of instructional content and over one million visual,
audio and interactive instructional elements in our asset repository.
Online Lessons. Our K12 online lessons or curricula are accessed through a proprietary learning
management platform, which we call our Online School (‘‘OLS’’) for K-8 students and the eCollege
platform for high school students, as well as a number of other common industry platforms for students
who access Aventa and A+ curricula. Each online lesson provides the roadmap for the entire lesson,
including direction to specific online and offline materials, summaries of major objectives for the lesson
and the actual lesson content with assessments. Digital versions of documents, readings, labs and other
activities may also be included. Lessons utilize a combination of innovative technologies, including
animations, demonstrations, audio, video and other graphic/digital interactivity, educational games and
individualized feedback, all coordinated with offline textbooks and hands-on materials, to create an
engaging, responsive and highly-effective curriculum. The formative, and periodic summative, online
assessments ensure that students have mastered the material and are ready to proceed to the next
lesson, allowing them to work at their own pace. Pronunciation guides for key words and references to
suggested additional resources, specific to each lesson and each student’s assignments and assessments,
are also included.
Learning Kits. Many of our courses utilize learning kits in conjunction with the online lessons to
maximize the effectiveness of our learning systems. In addition to receiving access to our online lessons
through the Internet, each K-8 student receives a shipment of materials, including award-winning
textbooks, art supplies, laboratory supplies (e.g., microscopes, scales, science specimens) and other
reference materials which are referred to and incorporated in instruction throughout our curriculum.
This approach is consistent with our guiding principle to utilize technology where appropriate for our
learning systems, and combine it with other effective instructional methods. Most of the textbooks we
use are proprietary, written to be verbally engaging and visually appealing to students, and to
complement the online experience. Through fiscal year 2012, we have also converted 35 K12 books used
across 57 courses into an electronic format, enabling us to offer options to enhance the student
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experience without physical books. We believe that our ability to effectively combine online lessons and
materials—to develop, deliver and implement them together for instruction—is a competitive
advantage.
Lesson Guides. Our courses are generally paired with a lesson guide. Lesson guides work in
coordination with the online lessons and include the following: overview information for learning
coaches, lesson objectives, lesson outlines and activities, answer keys to student exercises and
suggestions for explaining difficult concepts to students.
Pre-K and K-8 Courses
From pre-kindergarten through 8th grade, our courses are generally categorized into seven major
subject areas: English and language arts, mathematics, science, history, art, music and world languages.
Our proprietary curriculum includes all of the courses that students need to complete their core
kindergarten through 8th grade education; a new pre-K offering introduces students to core subjects
through cross-curricular thematic units, building initial and fundamental relationships among concepts.
Courses focus on developing fundamental skills and teaching the key knowledge building blocks or
schemas—the ‘‘big ideas’’—that each student will need to master the major subject areas, meet state
standards and complete more advanced coursework. Unlike a traditional classroom education, our
learning systems offer the flexibility for each student to take courses at different grade levels in a single
academic year, providing flexibility for students to progress at their own level and pace within each
subject area.
The first phase of our K12 second generation elementary language arts program is designed to
deliver increased interactivity and make instruction even more engaging while integrating rewards,
interactive practice and a virtual world. Our Fundamentals of Geometry and Algebra course completes
our proprietary K-8 math offering. These courses support students at various skill levels via targeted,
timely remediation, embody the Common Core State Standards (‘‘CCSS’’) and include significant media
integration. In addition, the flexibility of our learning systems allows us to tailor our curriculum to state
specific requirements. For example, we have developed 62 courses specifically created for the public
school standards in 13 states. In addition to the ongoing evolution of our K-5 Math+ program, we have
also created over 80 custom Math+ sequences to serve specific state needs. We continue to migrate K12
K-8 courses from our legacy content management system (‘‘CMS’’) to our new CMS.
High School Courses
The curriculum available to high school students is much broader and varies from student to
student, largely as a result of the increased flexibility in course selection available to high school
students. Students also are able to select from a wide range of electives. We have augmented our lab
program for lab science courses with the creation of alternate kit-free science labs for the formerly
kit-based high school science labs in order to provide a more flexible and robust lab program across
our physical science, earth science, biology, chemistry and physics courses. Our overall lab program now
includes traditional kit-based labs based on either shipped-in or household materials, virtual labs, video-
based labs, data-collection and data-manipulation labs, and field studies. This array provides schools
with additional materials flexibility, and integrates diverse modalities directly into our science
curriculum to promote conceptual mastery. Across all subject areas, the K12 proprietary core curriculum
accounts for approximately 90% of our high school course enrollments.
Aventa Learning by K12 Curriculum. With our acquisition of KCDL, we also offer curriculum
marketed as our Aventa Learning by K12 product line. The Aventa curriculum development team has
been fully integrated into our Product Development organization, improving efficiency in the use of
resources and course capabilities. Aventa courses are written to national academic standards and each
of Aventa’s 22 AP courses has been reviewed and approved by The College Board. Aventa’s online
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courses are developed by subject matter experts, designed by multimedia teams and delivered by highly
qualified high school instructors. Aventa classes are primarily delivered over the Internet and use a
variety of interactive elements to keep students engaged throughout. A deep understanding of K-12
pedagogy, as well as the human factors associated with online technology, is integrated into Aventa’s
curriculum.
A+. With our acquisition of AEC, we gained the A+ courseware which is currently in use in
over 5,000 public and private K-12 schools, charter schools, colleges, correctional institutions, centers of
adult literacy, military education programs and after-school learning centers. The A+nyWhere Learning
System provides an integrated offering of instructional software and assessment for reading,
mathematics, language arts, science, writing, history, government, economics and geography for grade
levels K-12. In addition, AEC provides assessment testing and instructional content for the General
Educational Development (‘‘GED’’) test. AEC products are designed to provide for LAN, WAN and
Internet delivery options and support Windows and Macintosh platforms. Spanish-language versions are
available for mathematics and language arts for grade levels 1-6.
Middlebury Interactive Languages. We offer online world language courses and summer immersion
language instruction programs through our MIL joint venture. In addition to offering powerspeaK12
language courses, this venture also offers innovative, online language programs for high school and
middle school students based on the Middlebury College pedagogy. The new courses use instructional
tools such as animation, music, videos and other elements that immerse students in new languages.
Beginner French, Chinese and Spanish for high school students as well as Chinese, French, Latin,
Spanish and German courses for middle and high school students are now available and additional
courses are in development. The joint venture has expanded the Middlebury-Monterey Language
Academy (‘‘MMLA’’), a foreign language immersion summer program for middle and high school
students, which now includes a day academy for middle school students as well as our four-week
residential academy with instruction in Arabic, Chinese, French, German, Italian and Spanish at
multiple college campuses.
Innovative Learning Applications
In order to continue to enhance the user experience and instructional methods of our learning
systems, we strive to develop new technologies and learning applications and adapt our curriculum to
new technology devices and platforms.
(cid:127) Mobile Learning: We have created tools that allow for more rapid mobile and tablet curriculum
or content deployment across platforms for deeper market penetration. Seven additional mobile
applications were delivered in fiscal year 2012 for a total of 15 applications now available for
download. These apps have been downloaded over 400,000 times since 2010. We continue to
deploy innovative educational tools for the mobile environment. With the increase in the use of
mobile devices, our mobile applications will create the ability for a student to learn ‘‘on-the-go,’’
allowing for more continuous learning, engagement and mastery of content. We offer
applications for the iPhone, Android phone and Android tablet marketplaces, adapting many of
our award-winning curriculum features for the mobile application space. We are continuing to
work on solutions that facilitate the deployment of our curriculum on mobile devices.
(cid:127) Interactive Games: An active educational games initiative is delivering new methods for
engagement, practice and review of K-12 concepts, including narrative/immersive styles, rewards,
persistent data, complex algorithms, etc. These games make use of extensive research and
educational best practices and address targeted learning objectives. We have delivered a total of
nine interactive games and an innovative review and practice portal called Noodleverse.
Noodleverse includes over 1,700 activities and is designed for K-2 students in conjunction with a
new language arts program.
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(cid:127) Virtual Labs: We have delivered alternatives for our educational partners who desire
materials-free curriculum. This includes converting over 59 existing materials-based high school
Science labs into highly interactive virtual labs and video lab simulations that meet state
standards and still maintain teaching the original learning objectives. For example, in high school
chemistry we have developed a virtual laboratory on chromatography, in which students separate
a number of inks into their component pigments. This laboratory is performed at a lab bench
with all the materials and with the same procedures high school students would use in a physical
chemistry laboratory.
(cid:127) eBook and Digital Book Distribution: Through fiscal year 2012, we have converted 35 K12
textbooks used across 57 courses into an electronic format, including textbooks, reference guides,
literature readers and lab manuals. This digital delivery ability enables us to offer options to our
customers via interactive online books that enhance the student’s reading experience, reinforce
the student’s learning approach and create a new method for delivering book and print
materials. Each offline book is converted into an electronic book format with a custom user
interface to be viewed via a standard web browser or a commercially available electronic reader
(Kindle, Nook, etc.).
(cid:127) Adaptive Learning: We have learning management systems and can now build courses that are
adaptive, which enable individualized learning experiences as the course ‘‘adapts’’ at key points
to student behavior and input. Based on assessment results or individual activity, these courses
can automatically route students to an alternate explanation, additional practice or remediation
on a prerequisite skill or crucial concept. In addition to remediation, the capability allows
students to accelerate past previously mastered concepts, giving skillful students time for more
challenging work. Our MARK12 reading remediation product captures individual students’
successes and challenges as they practice phonemic awareness, alphabetic principles, accuracy
and fluency, vocabulary and comprehension. The program serves the individual student more
exercises, practice and review in areas of difficulty. Adaptation in this way tailors the instruction
automatically for each student, making learning experiences more efficient and effective by
building right into the course the logic an expert teacher or tutor uses to differentiate
instruction.
(cid:127) National Math Lab: We launched a pilot program for the 2011-12 school year called National
Math Lab, designed as a controlled study with randomly selected treatment and control groups
from a pool of students in grades 5-10 identified as significantly below grade level in math.
National Math Lab provided nearly twice the usual amount of math instruction to students who
were part of the treatment group. In addition to their regular online math coursework, students
in the treatment group attended targeted synchronous mathematical instruction sessions
provided by highly-trained math teachers four days per week. The results of the pilot National
Math Lab program were promising and based on the success of the pilot the program is being
expanded for the 2012-13 school year to serve as many as 10,000 students.
(cid:127) Engaging Videos: We continue to explore opportunities to enhance student engagement through
strategic use of relevant multimedia. Multimedia is specifically used as appropriate for the
subject matter. For example, our video on photosynthesis for high school biology allows students
to witness the setup, procedure and data in a classic experiment in which an aquatic plant is
exposed to light and produces oxygen bubbles. The high definition video and the presentation to
the student of real data (which they then use in their analysis) makes this video lab a
multimedia experience that is coupled with a scientific method.
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Online School Platform—Learning Management System
For our K12 curriculum users in grades K-8, we provide a proprietary learning management system,
our OLS platform, which was launched in the 2010-11 school year. The OLS is a significant part of our
ongoing effort to provide the most engaging and productive learning experience for students. The OLS
platform is an adaptive, intuitive, web-based software platform that provides access to our online
lessons, our lesson planning and scheduling tools, as well as our progress tracking tool which serves a
key role in assisting parents and teachers in managing each student’s progress. The OLS is also the
central structure through which students, parents, teachers and administrators interact using Kmail and
Class Connect (our integrated synchronous session scheduler). Because the OLS is a web-based
platform, students, parents and teachers can access our online tools and lessons through the OLS from
anywhere with an Internet connection. We license a third-party learning management system for use in
our high school program.
(cid:127) Lesson Planning and Scheduling Tools. In a school year, a typical student will complete between
800 and 1,200 lessons across six or more subject areas. Our lesson planning and scheduling tools
enable teachers and parents to establish an individualized plan for each student to complete his
or her lessons. These tools are designed to dynamically update the lesson plan as a student
progresses through each lesson and course, allowing flexibility to increase or decrease the pace
at which the student advances through the curriculum while ensuring that the student progresses
towards completion in the desired time frame. For example, the schedule can easily be adapted
to accommodate a student who desires to attend school six days a week, a student who is
interested in studying during the winter holidays to take time off during the spring, or a student
who chooses to complete two math lessons a day for the first month of the school year and
delay art lessons until the second month of the school year. Moreover, changes can be made to
the schedule at any point during the school year and the remainder of the student’s schedule will
automatically be adjusted in the OLS. Unlike a traditional classroom education, our learning
systems offer the flexibility for each student to take courses at different grade levels in a single
academic year, providing flexibility for students to progress at their own level and pace within
each subject area. The curriculum includes assessments built into every lesson to guide and tailor
the pace of progress to each child’s needs.
(cid:127) Progress Tracking Tools. Once a schedule has been established, the OLS delivers lessons based
upon the specified parameters of the school and the teacher. Each day, a student is initially
directed to a home page listing the schedule for that particular day and begins the school day by
selecting one of the listed lessons. As each lesson is completed, the student returns to the day’s
schedule to proceed to the next subject. If a student does not complete a lesson by the end of
the day on which it was originally scheduled, the lesson will be rescheduled to the next day and
will resume at the point where the student left off. Our progress tracking tool allows students,
parents, learning coaches and teachers to monitor student progress. In addition, information
collected by our progress tracking tool regarding student performance, attendance and other
data is transferred to our proprietary Student Administration Management System (‘‘SAMS’’) for
use in providing administrative support services. This instructional program includes several
processes and educational techniques that embrace proactive intervention. As a result, we can
provide high quality instruction and intervention equal to student needs.
(cid:127) Assessment Tracking Tools: Meaningful assessments and feedback are critical to efficient and
successful learning. Assessments embedded into our lessons help the parent, teacher, and
student verify that the student is achieving important learning objectives. A student does not
progress to the next lesson in a course until he has mastered the assessment at the end of the
previous lesson. Teachers can easily view assessment data for their students in the OLS so that
they can proactively provide additional instruction to students when needed. Our assessment
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tools also help us improve the program by providing information on the effectiveness of specific
instructional activities and the curriculum.
Our program makes use of a variety of formative and summative assessment instruments:
(cid:127) Lesson assessments are used to verify mastery of the objectives for that lesson and to determine
whether further study of the lesson is necessary.
(cid:127) Unit assessments show whether or not the student has retained key learning objectives for the
unit, and identify specific objectives students may need to review before moving on.
(cid:127) Semester assessments verify student mastery of key learning objectives for the semester.
Independent third-party assessments are used in most of our managed schools to pinpoint specific
individual student strengths and weaknesses relative to state standards. These results enable the teacher
to develop a highly-personalized individual learning plan for each student. Students are tested via an
online, adaptive test at the beginning and end of the school year to provide a measure of individual
student growth demonstrating the value-added gains of the school program.
School Management Systems
SAMS is our proprietary student information system. SAMS is integrated with the OLS and several
other proprietary systems including our Online Enrollment System that allows parents to complete
school enrollment forms online and our order management system that generates orders for learning
kits and computers to be delivered to students. SAMS stores student-specific data and is used for a
variety of functions, including enrolling students in courses, assigning progress marks and grades,
tracking student demographic data, and generating student transcripts. In 2008, we launched TotalView,
a suite of online applications that provides administrators, teachers, parents and students a unified view
of student progress, attendance, communications, and learning kit shipment tracking. TotalView
includes a sophisticated means of documenting student engagement in required classroom activities,
identification of those students struggling with grade level state content standards, and previous year’s
performance on state tests. TotalView also includes Kmail, our internal communications system.
Through Kmail, administrators and teachers can communicate electronically with learning coaches and
students. TotalView also includes an enrollment processing and tracking tool that allows us to closely
monitor and manage the enrollment process for new students. Over the past three school years, we
have enhanced TotalView with additional functionality to better support the operation of the virtual
and blended public schools.
PEAK12
We have launched a new and innovative online learning solution called PEAK12. This solution
simplifies a district’s management of online learning by consolidating multiple solutions on a single
platform. It allows administrators and teachers to manage enrollments, programs and performance
tracking, alerts and reporting across multiple online solutions from a single solution. In addition,
through the PEAK12 library, districts can quickly and easily search, build, provision and publish content
or course modifications or new course solutions using various online learning assets. In the near future,
it will integrate with a variety of third-party platforms to allow districts more flexibility and control over
how they launch and manage their online learning programs. As more districts adopt online learning,
they are demanding more control and flexibility in running their programs. PEAK12 provides
unparalleled capabilities for districts wanting to operate multiple solutions or catalogs from a single
place and offers rich personalization features that can be managed at the district, school or teacher
level.
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Our Services
We offer a comprehensive suite of services to students and their families as well as directly to
virtual and blended public schools, traditional schools and school districts. Our services can be
categorized broadly into academic support services and management and technology services.
Academic Support Services
Teachers and Related Services. Teachers are critical to students’ educational success. Teachers in
the virtual and blended public schools that we manage are often employed by the school, with the
ultimate authority over these teachers residing with the school’s governing body. Under our service
agreements, we often recruit, train and provide management support for these teachers. Historically, we
have seen significant demand for teaching positions in the virtual and blended public schools that we
manage. For our Institutional Business customers, we provide services as needed using our staff of
highly qualified and state-certified teachers and trainers.
We use a rigorous evaluation process for making hiring recommendations to the schools we serve.
We generally recruit teachers who, at a minimum, are state certified and meet each state’s
requirements for designation as a ‘‘Highly Qualified Teacher,’’ and generally have at least three years of
teaching experience. We also seek to recruit teachers who have the skill set necessary to be successful
in a virtual environment. Teaching in a virtual or blended public school is characterized by enhanced
one-on-one student-teacher and parent-teacher interaction, so these teachers must have strong
interpersonal communications skills. Additionally, a virtual or blended public school teacher must be
creative in finding ways to effectively connect with their students and integrate themselves into the daily
lives of the students’ families. We assess these teacher characteristics using a customized online
assessment as part of the hiring process.
New teachers participate in our comprehensive training program during which, among other things,
they are introduced to our educational philosophy, our curriculum and our OLS and other technology
applications, and are provided strategies for communicating and connecting with students and their
families in a virtual environment. We also provide ongoing professional development opportunities for
teachers so that they may stay abreast of changing educational standards, key learning trends, and
sound pedagogical strategies which we believe enhance their teaching abilities and effectiveness.
In addition to our compliance with state-mandated testing programs, we have instituted a student
progress testing program in cooperation with a third-party provider of standardized testing services. The
results of this testing helps us manage the quality of our academic programs using widely recognized
services from an industry-leading third party.
Advanced and Special Education Services. We believe that our individualized learning systems are
able to effectively address the educational needs of both advanced and special education students
because they are self-paced and employ flexible teaching methods. For students requiring special
attention, we employ a national director who is an expert on the delivery of special education services
in a virtual or blended public school environment and who oversees the special education programs at
the schools we serve. We direct and facilitate the development and implementation of ‘‘individualized
education plans’’ for students with special needs. Each school’s special education program is compliant
with the federal Individuals with Disabilities Education Act and all state special education
requirements. Each special needs student is assigned a certified special education teacher and the
school arranges for any required ancillary services, including speech and occupational therapy, and any
required assistive technologies, such as special computer displays or speech recognition software. We
support advanced and talented students through our advanced learner program. Advanced learners are
able to participate in a wide variety of enrichment seminars, clubs, and mentoring opportunities.
Advanced students are connected to each other across state boundaries through learning circles, book
clubs, and other special-interest activities.
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Supporting At-Risk Learners. We work to narrow the achievement gap for those students who
enter our virtual or blended public schools behind their same-age peers. To that end, we conduct both
formative and summative assessments during the course of the school year in order to identify those
students needing specific remedial support as well as measure the effectiveness of the support. We also
offer the Passport program, which is designed for at-risk students, particularly those who have
previously dropped out of high school, and which includes more counseling and support services.
Student Support Services. We provide students attending virtual or blended public schools that we
manage and their families with a variety of support services to ensure that we effectively meet their
educational needs and goals. We offer support to address any questions or concerns that students and
their parents have during the course of their education. We plan and coordinate social events to offer
students opportunities to meet and socialize with their school peers. Finally, in connection with our
high school offering, each student is assigned a homeroom teacher, and/or an advisor and a guidance
counselor who assists them with academic issues, college and career planning and other support as
needed.
Management and Technology Services
Turn-key Services. For most of our managed statewide virtual and blended public schools, we
provide turn-key management services. In these circumstances, we take responsibility for all aspects of
the management of the schools, including monitoring academic achievement, teacher hiring and
training, compensation of school personnel, financial management, enrollment processing and provision
of curriculum, equipment and required services.
Accreditation.
In 2007, the Commission on International and Trans-regional Accreditation
(‘‘CITA’’), a leading worldwide education accreditation agency, thoroughly evaluated our school
management services and we received its prestigious accreditation. CITA has since been absorbed by
AdvancED, the parent company of North Central Accreditation Association Commission on
Accreditation and School Improvement and Southern Association of Colleges and Schools Commission
on Accreditation and School Improvement, with our full corporate accreditation transferring to
AdvancED. In addition, many of the schools we manage maintain regional accreditations with other
accrediting associations.
Compliance and Tracking Services. Operating a virtual or blended public school entails most of the
compliance and regulatory requirements of a traditional public school. We have developed management
systems and processes designed to ensure that schools we serve are in compliance with all applicable
requirements, including tracking appropriate student information and meeting various state and federal
reporting requirements. For example, we collect enrollment related information, monitor attendance
and administer proctored state tests. As we have expanded into new states, our processes have grown
increasingly robust, and we believe our compliance and tracking processes provide us with a distinct
competitive advantage.
Financial Management Services. For the schools we manage, we oversee the preparation of the
annual budget and coordinate with the school’s governing body to determine its annual objectives. In
addition, we implement an internal control framework, develop policies and procedures, provide
accounting services and payroll administration, oversee all federal entitlement programs, arrange for
external audits and ensure all state and local compliance reporting is met.
Facility, Operations and Technology Support Services. We generally operate administrative offices
and all other facilities on behalf of the schools we manage. We provide these schools with a complete
technology infrastructure. In addition, we provide a comprehensive help desk solution for students and
school staff to address their computer or other technical issues.
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Human Resources Support Services. We are actively involved in hiring virtual and blended public
school administrators, teachers and staff, through a thorough interview and orientation process. To
better facilitate the hiring process, we review and analyze the profiles of teachers that have been highly
effective in our learning systems to identify the attributes desired in future new hires. While many
schools employ teachers directly, we also help negotiate and secure employment benefits and payroll
services for school staff on behalf of the schools and administer employee benefit plans for school
employees. Additionally, we assist the schools we serve in drafting and implementing administrative
policies and procedures.
Competition
As a general matter, we face varying degrees of competition from a variety of education companies
because our learning systems encompass many components of the educational development and
delivery process. We compete primarily with companies that provide online curriculum and school
support services to K-12 virtual and blended public schools, and school districts. These companies
include DeVry, Inc. (Advanced Academics), Pearson PLC (Connections Academy), White Hat
Management, LLC, and National Network of Digital Schools Management Foundation Inc., among
others. We also face competition from online and print curriculum developers. The online curriculum
providers include Apex Learning Inc., Compass Learning, E2020 Inc., OdysseyWare, PLATO
Learning, Inc., Rosetta Stone Inc. and traditional textbook publishers include Houghton Mifflin
Harcourt, McGraw-Hill Companies and Pearson PLC. We also compete with institutions such as The
Laurel Springs School (Nobel Learning Communities, Inc.) and the National Connections Academy for
online private school students. Additionally, we compete with state-run online programs such as Florida
Virtual School.
We believe that the primary factors on which we compete are:
(cid:127) extensive experience in, and understanding of, K-12 virtual schooling;
(cid:127) track record of academic gains and customer satisfaction;
(cid:127) quality of curriculum and online delivery platform;
(cid:127) qualifications and experience of teachers;
(cid:127) comprehensiveness of school management and student support services;
(cid:127) integrated K12 solutions, with components designed and built to work together;
(cid:127) ability to scale across our lines of business; and
(cid:127) competitive pricing.
Broadly speaking, we participate in the market for K-12 education. In states where we manage
virtual and blended public schools, we believe that we generally serve less than 1% of the public school
students in that state. The customers for our Institutional Business are schools and school districts
seeking individual courses to supplement their course catalogs or school districts seeking to offer an
online education option to serve the needs of a small subset of their overall student population.
Defining a more precise relevant market upon which to base a share estimate would not be meaningful
due to significant limitations on the comparability of data among jurisdictions. For example, some
providers to K-12 virtual public schools serve only high school students; others serve the elementary
and middle school students, and a few serve both. There are also providers of online virtual K-12
education that operate solely within individual states or geographic regions rather than globally as we
do. Furthermore, some school districts offer their own virtual programs with which we compete. Parents
in search of an alternative to their local public school have a number of alternatives beyond virtual and
blended public schools, including private schools, charter schools and home schooling. In the
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International and Private Pay Business, we compete for students seeking an English-based K-12
education on an international basis. We currently draw students from 85 countries and operate a brick
and mortar private school in Switzerland. In addition, our integrated learning systems consist of
components that face competition from many different types of education companies, such as
traditional textbook publishers, test and assessment firms and private education management
companies. Finally, our learning systems are designed to operate domestically and internationally over
the Internet, and thus the geographic addressable market for many of our products and services is
global and indeterminate in size.
Key Functional Areas
Public Affairs, School Development, Student Recruitment and Marketing
We seek to increase public awareness of the educational and fiscal benefits of individualized online
learning options through full-time online and blended instructional models as well as supplementary
course options. We receive numerous inquiries from school districts, legislators, charter school boards,
community leaders, state departments of education, educators and parents who express the desire to
have a choice in public school options. Our public affairs and school development teams work together
with these interested parties to identify and pursue opportunities to expand the use of our products and
services in new jurisdictions.
Our student recruitment and marketing team is responsible for promoting our corporate brand,
generating new student enrollments, managing the consumer sales business, conducting market and
customer research, defining, packaging and pricing our product offerings to customers, and enhancing
the experience of students enrolled in the schools we serve through the development and operation of
student clubs and parent support opportunities. This team employs a variety of strategies designed to
better understand and address the requirements of our target markets.
Operations
The physical learning kits that accompany our online lessons are an essential component of many
of our courses. A student enrolling in one of our courses receives multiple textbooks, art supplies,
laboratory supplies (e.g. microscopes and scales) and other reference materials designed to enhance the
learning experience. We package these books and materials into course-specific learning kits. Because
each student’s curriculum is customized, the combination of kits for each student must also be
customized. In fiscal year 2012, we assembled approximately 5.5 million items into more than 504,000
kits.
Over our 12 years of operation, we believe that we have gained significant experience in the
sourcing, assembly and delivery of school supplies and materials. We have developed strong
relationships with partners allowing us to source goods at favorable price, quality and service levels.
Our fulfillment partner stores our inventory, builds our learning kits and ships the kits to students. We
have invested in systems, including our Order Management System, to automatically translate the
curriculum selected by each enrolled student into an order to build the corresponding individualized
learning kit. As a result, we believe we have an end-to-end warehousing and fulfillment operation that
will cost-effectively scale as the business grows in scope and complexity.
For many of our virtual and blended public school customers, we attempt to reclaim any materials
that could be cost-effectively re-utilized in the next school year. These items, once returned to our
fulfillment center, are refurbished and included in future learning kits. This reclamation process allows
us to maintain lower materials costs.
Our fulfillment activities are highly seasonal, and are centered around the start of school in August
or September. Accordingly, approximately 65% of our annual materials inventory is received between
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March and May and approximately 65% of shipments to customers occur between June and
September.
In order to ensure that students in virtual and blended public schools have access to our OLS, we
often provide students with a computer and all necessary support. We source computers and ship them
to students when they enroll and reclaim the computers at the end of a school year or upon
termination of their enrollment or withdrawal from the school in which they are enrolled.
Technology
Our online learning systems, along with our back office support systems, are built on our
proprietary Service Oriented Architecture (‘‘SOA’’) to ensure high availability and redundancy. The
flexibility and security enabled by our SOA are the core principles of our systems’ foundation.
Service Oriented Architecture. All of our systems leverage our SOA that is built on top of
Enterprise Java. The SOA allows us to develop iterative solutions expeditiously to meet both present
and future market needs. Our high availability and scalability are also facilitated by this architecture.
The SOA also enables seamless integration with third-party solutions in our platform with ease and
efficiency.
Availability and Redundancy. Our SOA allows for primary and secondary equipment to be utilized
at all network and application tiers. Each application layer is load balanced across multiple servers,
which, along with our sophisticated network management capabilities, allows for additional hardware to
be inserted into our network providing us with optimal scalability and availability as evidenced by our
greater than 99% uptime with our ever growing user base. We regularly backup critical data and store
this backup data at an offsite location.
Security. Our security measures and policies include dividing application layers into multiple zones
controlled by firewall technology. Sensitive communications are encrypted between client and server
and our server-to-server accessibility is strictly controlled and monitored.
Physical Infrastructure. We utilize leading vendors to provide a foundation for our SOA. Our
systems are housed offsite in data centers that provide a robust, redundant network backbone, power
and geographically separated disaster recovery. In fiscal year 2012, we went live with our second data
center which now hosts our K12 websites and multiple non-production support environments. Our
second data center, geographically separated from our primary, has been configured with enterprise
virtualization technology and will soon operate as a ready business continuity site with secured,
near-real time data replication. We vigilantly monitor our physical infrastructure for security, availability
and performance.
Oracle eBusiness Suite.
In fiscal year 2012, we continued our investment in the Oracle ERP
platform to further provide operational efficiencies and support scalable, global growth. In addition to
enabling operational integration within our finance department (including the integration of recent
corporate acquisitions), we implemented automated expense reporting, enhanced business intelligence
and consolidated onto a single chart of accounts. The current Oracle eBusiness Suite roadmap for fiscal
year 2013 includes implementation of a new integrated billing solution, an automated delegation of
authority capability, significant management and business intelligence dashboards, enhanced
procurement policies and processes, and enhanced cash management capabilities, among other business
and technical initiatives. In particular, we seek to further leverage enterprise solutions across
interdependent functional areas through migration of or interface with other applications. Our
eBusiness Suite is hosted by Oracle OnDemand, a full-service data center with 24/7 support that
includes site redundancy and disaster recovery services.
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Other Information
Intellectual Property
Since our inception, we have invested more than $305 million to develop, and to a lesser degree,
acquire our proprietary curriculum, education software and online learning systems. We continue to
invest in our intellectual property as we develop more courses for new grades and expand into adjacent
education markets, both in the United States and overseas. Through acquisitions, we have also acquired
curriculum, patents and trademarks that expand our portfolio of educational products and services. We
continue to add features and tools to our proprietary learning platform and support systems to assist
teachers and students and improve educational outcomes, such as adaptive learning technologies. These
intellectual property assets are critical to our success and we avail ourselves of the full protections
provided under the patent, copyright, trademark and trade secrets laws. We also routinely utilize
confidentiality and licensing agreements with our employees, the virtual and blended public schools,
traditional schools, school districts and private schools that we serve, individual consumers, contractors
and other businesses and persons with which we have commercial relationships.
Our patent portfolio includes issued patents and pending applications directed towards various
aspects of our educational products and offerings. In particular, the first family of patent applications
we filed in the U.S. and in foreign countries was directed towards the first generation of our system
and method of virtual schooling and includes two issued patents. Further, two U.S. patents were issued
for our systems and methods of online foreign language instruction. We also acquired eight issued
patents in connection with our acquisition of certain assets of the Cardean Learning Group LLC.
Finally, we have submitted patent applications in the United States and in foreign countries for aspects
of the second generation of our virtual school application.
We own the copyright to the lessons contained in the courses that comprise our proprietary
curriculum and we continue to register this growing lesson portfolio with the U.S. Copyright Office.
Through our acquisitions of KCDL, AEC and KVE, we acquired copyright ownership of approximately
330 courses.
We have obtained federal and state registrations for numerous trademarks that are related to our
offerings and we have applied to the U.S. Patent and Trademark Office to register certain new
trademarks. As a result of the acquisitions we have made, we also own U.S. and foreign trademarks
and a portfolio of domain names.
We grant licenses to individuals to use our software in order to access our online learning systems.
Similarly, schools are granted a license to use our online learning systems in order to access SAMS and
our other systems. These licenses are intended to protect our ownership and the confidentiality of the
embedded information and technology contained in our software and systems. We also own many of
the trademarks and service marks that we use as part of the student recruitment and branding services
we provide to schools. Those marks are licensed to the schools for use during the term of the products
and services agreements.
Our employees, contractors and other parties with access to our confidential information sign
agreements that prohibit the unauthorized use or disclosure of our proprietary rights, information and
technology.
Employees
As of June 30, 2012, we had approximately 3,300 employees, including approximately 1,600
teachers. A majority of these employees are located in the United States. In addition, there are
approximately 3,500 teachers who are employed by virtual or blended public schools that we manage
under turn-key solution contracts with those schools but are not direct employees of K12. None of our
employees are represented by a labor union or covered by a collective bargaining agreement; however,
22
certain Managed Public Schools we serve employ unionized teachers. We believe that our employee
relations are good.
Corporate Information
Our principal executive office is located at 2300 Corporate Park Drive, Herndon, Virginia 20171
and our telephone number is (703) 483-7000. Our website address is www.K12.com.
Available Information
We make available, free of charge through our website, our annual reports on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed
pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the ‘‘Exchange
Act’’), promptly after they are electronically filed with the Securities and Exchange Commission (the
‘‘SEC’’). In addition, our earnings conference calls are web cast live via our website. In addition to
visiting our website, you may read and copy public reports we file with the SEC at the SEC’s Public
Reference Room at 100 F Street, N.E., Washington D.C. 20549, or at www.sec.gov. You may obtain
information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330.
Information contained on our website is expressly not incorporated by reference into this Annual
Report.
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REGULATION
We and the virtual and blended public schools that purchase our curriculum and management
services are subject to regulation by each of the states in which we operate. The state laws and
regulations that impact our business are those that authorize or restrict our ability to operate these
schools, as well as the applicable funding mechanisms. Finally, to the extent these schools receive
federal funds, such as through a grant program or financial support dedicated for the education of
low-income families, these schools then become subject to additional federal regulation. Federal
funding and other regulations also apply to the colleges and universities to which we provide learning
management systems and curriculum.
State Laws Authorizing or Restricting Virtual and Blended Public Schools. The authority to operate
a virtual or blended public school is dependent on the laws and regulations of each state. Laws and
regulations vary significantly from one state to the next and are constantly evolving. In states that have
implemented specific legislation to support virtual and blended public schools, the schools are able to
operate under these statutes. Other states provide for virtual and blended public schools under existing
charter school legislation or provide that school districts and/or state education agencies may authorize
them. Some states do not currently have legislation that provides for virtual and blended public schools
or have requirements that effectively prohibit such schools and, as a result, may require new legislation
before virtual and blended public schools can open in the state. We currently serve virtual and blended
public schools or school district-led programs in 32 states plus the District of Columbia. While a few
states do not currently have either a state-led program or significant state-level policies for online
education, the absence of such conditions has not precluded us from applying to serve, and in certain
cases serving, schools in some of those states.
Obtaining new legislation in these remaining states can be a protracted and uncertain process.
When determining whether to pursue expansion into new states in which the laws are ambiguous, we
research the relevant legislation and political climate and then make an assessment of the perceived
likelihood of success before deciding to commit resources. Specifically, we take into account numerous
factors including, but not limited to, the regulations of the state educational authorities, whether the
overall political environment is amenable to school choice, whether current funding levels for virtual
school and blended schools enrollments are adequate and accessible, and the presence of non-profit
and for-profit competitors in the state.
State Laws and Regulations Applicable to Virtual and Blended Public Schools. Virtual and blended
public schools that purchase our curriculum and management services are often governed and overseen
by a non-profit or a local or state education agency, such as an independent charter school board, local
school district or state education authority. We generally receive funds for products and services
rendered to operate virtual public schools or blended schools under detailed service agreements with
that governing authority. Virtual and blended public schools and blended schools are typically funded
by state or local governments on a per student basis. A virtual or blended public school that fails to
comply with the state laws and regulations applicable to it may be required to repay these funds and
could become ineligible for receipt of future state funds.
To be eligible for state funding, some states require that virtual and blended public schools be
organized under not-for-profit charters exempt from taxation under Section 501(c)(3) of the Internal
Revenue Code of 1986, as amended (the ‘‘Code’’). The schools must then be operated exclusively for
charitable educational purposes, and not for the benefit of private, for-profit management companies.
The board or governing authority of the not-for-profit virtual or blended public school must retain
ultimate accountability for the school’s operations to retain its tax-exempt status. It may not delegate its
responsibility and accountability for the school’s operations. Our service agreements with these virtual
and blended public schools are therefore structured to ensure the full independence of the
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not-for-profit board and preserve its arms-length ability to exercise its fiduciary obligations to operate a
virtual or blended public school.
Laws and regulations affect many aspects of operating a virtual or blended public school. They can
dictate the content and sequence of the curriculum, the requirements to earn a diploma, use of
approved textbooks, the length of the school year and the school day, the accessibility of curriculum
and technology to students with disabilities, teacher: student ratios, the assessment of student
performance and any accountability requirements. In addition, a virtual or blended public school may
be obligated to comply with states’ requirements to offer programs for specific populations, such as
students at risk of dropping out of school, advanced and talented students, non-English speaking
students, pre-kindergarten students and students with disabilities. Tutoring services and the use of
technology may also be regulated. Other state laws and regulations may affect the school’s compulsory
attendance requirements, treatment of absences and make-up work, and access by parents to student
records and teaching and testing materials. Additionally, states have various requirements concerning
the reporting of extensive student data that may apply to the school. A virtual or blended public school
may have to comply with state requirements that school campuses report various types of data as
performance indicators of the success of the program.
States have laws and regulations concerning certification, training, experience and continued
professional development of teachers and staff with which a virtual or blended public school may be
required to comply. There are also numerous laws pertaining to employee salaries and benefits,
statewide teacher retirement systems, workers’ compensation, unemployment benefits and matters
related to employment agreements and procedures for termination of school employees. A virtual or
blended public school must also comply with requirements for performing criminal background checks
on school staff, reporting criminal activity by school staff and reporting suspected child abuse.
As with any public school, virtual and blended public schools must comply with state laws and
regulations applicable to governmental entities, such as open meetings or sunshine laws, which may
require the board of trustees of a virtual or blended public school to provide public notice of and hold
its meetings open to the public unless an exception in the law allows an executive session. Failure to
comply with these requirements may lead to personal civil and/or criminal penalties for board members
or officers or the invalidation of actions taken during meetings that were not properly noticed and open
to the public. Virtual and blended public schools must also comply with public information or open
records laws, which require them to make school records available for public inspection, review and
copying unless a specific exemption in the law applies. Additionally laws pertaining to records privacy
and retention and to standards for maintenance of records apply to virtual and blended public schools.
Other types of regulation applicable to virtual and blended public schools include restrictions on
the use of public funds, the types of investments made with public funds, the collection of and use of
student fees and controlling accounting and financial management practices.
There remains uncertainty about the extent to which virtual and blended public we may be
required to comply with state laws and regulations applicable to traditional public schools because the
concept of virtual public schools and blended schools is relatively new. Although we receive state funds
indirectly, according to the terms of each service agreement with the local public school entity, our
receipt of state funds subjects us to extensive state regulation and scrutiny. States regularly conduct
audits of these schools some of which are pending, to verify enrollment, attendance, fiscal
accountability, special education services and other regulatory issues. While we may believe that a
virtual public school or blended school we serve is compliant with state law, an agency’s different
interpretation of law in a particular state, or the application of facts to such law, could result in
non-compliance, potentially affecting funding.
Regulations Restricting Virtual and Blended Public School Growth and Funding. As a public
schooling alternative, some state and regulatory authorities have elected to proceed cautiously with
25
virtual and blended public schools while providing opportunities for taxpayer families seeking this
alternative. Regulations that control the growth of virtual and blended public schools range from setting
caps on statewide student enrollments, to prescribing the number of schools in a state, to limiting the
percentage of time students may receive instruction online. Funding regulations can also have this
effect.
Regulations that hinder our ability to serve certain jurisdictions include: restrictions on student
eligibility, such as mandating attendance at a traditional public school prior to enrolling in a virtual or
blended public school; caps on the total number of students in a virtual or blended public school;
restrictions on grade levels served; geographic limitations on enrollments; fixing the percentage of per
pupil funding that must be paid to teachers; state-specific curriculum requirements; and limits on the
number of charters that can be granted in a state.
Funding regulations for virtual public schools and blended schools can take a variety of forms.
These regulations include: (i) attendance—some state daily attendance rules were designed for
traditional classroom procedures and applying them to track daily attendance and truancy in an online
setting can cause disputes to arise over interpretation and funding; (ii) enrollment eligibility—some
states place restrictions on the students seeking to enroll in virtual and blended public schools, resulting
in lower aggregate funding levels; and (iii) teacher contact time—some states have regulations that
specify minimum levels of teacher-student face-to-face time. These regulations can create logistical
challenges for statewide virtual and blended public schools, reduce funding and eliminate some of the
economic, academic and technological advantages of virtual learning.
Federal and State Grants. We have worked with some entities to secure public and grant funding
that flows to virtual and blended public schools that we serve. These grants are awarded to the not-for-
profit entity that holds the charter of the virtual or blended public school on a competitive basis in
some instances and on an entitlement basis in other instances. Grants awarded to public schools and
programs—whether by a federal or state agency or nongovernmental organization—often include
reporting requirements, procedures and obligations.
Foreign Laws and Regulations. Schools we acquired or operate in other countries are subject to
local laws and regulations. We oversee and rely on the administrators in each school on a continuous
basis and seek the advice of local legal and regulatory experts as-needed.
Federal Laws Applicable to Virtual Public Schools and Blended Schools
Five primary federal laws are directly applicable to the day-to-day provision of educational services
we provide to virtual and blended public schools:
(cid:127) No Child Left Behind Act (‘‘NCLB’’). Through the funding of the Title I programs for
disadvantaged students under NCLB, the federal government requires public schools to develop
a state accountability system based on academic standards and assessments developed by the
state, which are applicable to all public school students. Each state must determine a proficiency
level of academic achievement based on the state assessments, and must determine what
constitutes adequate yearly progress (‘‘AYP’’) toward that goal. NCLB has a timeline to ensure
that no later than the 2013-14 school year, all students, including those in all identified
subgroups (such as economically disadvantaged, limited English proficient and minority
students), will meet or exceed the state proficient level of academic achievement on state
assessments. The progress of each school is reviewed annually to determine whether the school
is making adequate yearly progress. If a Title I school does not make adequate yearly progress
as defined in the state’s plan, the local education agency (‘‘LEA’’) is required to identify the
school as needing school improvement, and to provide all students enrolled in the school with
the option to transfer to another public school served by the LEA, which may include a virtual
or blended public school. The LEA must develop a school improvement plan for each school
26
identified as needing improvement in consultation with parents, staff and outside experts and
this plan must be implemented not later than the beginning of the next full school year. If the
school does not make adequate yearly progress in subsequent years, the school transfer option
remains open to students and other corrective action must be taken ranging from providing
supplemental education services to the students who remain in the school to taking corrective
action including, but not limited to, replacing school staff, implementing a new curriculum,
appointing outside experts to advise the school, extending the school year or the school day,
reopening the school as a public charter school with a private management company or turning
over the operation of the school to the state educational agency.
Another provision of the NCLB requires public school programs to ensure that all teachers are
highly qualified. A highly qualified teacher means one who has: (1) obtained full state
certification or licensure as a teacher and who has not had certification or licensure
requirements waived on an emergency, temporary or provisional basis; (2) obtained a bachelor’s
degree; and (3) demonstrated competence in the academic subject the teacher teaches. All
teacher aides working in a school supported with Title I funds must be highly qualified which
means the person must have a high school diploma or its equivalent and one of the following:
completed at least two years of study in an institution of higher education, obtained an
associate’s or higher degree, or met a rigorous standard of quality demonstrated through a
formal state or local assessment. Virtual and blended public schools using our products and
services may be required to meet these requirements for any persons who perform instructional
services.
Virtual and blended public schools that receive Title I funding and use our products and services
may be required to provide parents of Title I students with a variety of notices regarding the
teachers and teachers’ aides that teach their children. In addition, if these schools serve limited
English proficient (‘‘LEP’’) children, they may be required to provide a variety of notices to the
parents regarding the identification of the student as LEP and certain information about the
instruction to be provided to the student, as well as the right to remove or refuse to enroll the
student in the LEP program. Finally, these schools may also be required annually to develop,
with input from parents of Title I students, and implement a written policy on parental
involvement in the education of their children, to hold annual meetings with these parents and
to provide these parents with assistance in various areas to help the parents to work with their
children to improve student achievement.
Under NCLB, even schools that do not receive Title I funding must provide certain notices to
parents. For example, schools may be required to provide a school report card and identify
whether any school has been identified as needing improvement and for how long. Parents also
must be provided data that will be used to determine adequate yearly progress. Virtual and
blended public schools may be contacted by military recruiters who have the right to access the
names, addresses and telephone numbers of secondary school students for military recruiting
purposes. Additionally, virtual public schools and blended schools may be required to notify
parents that they have the option to request that this information not be released to military
recruiters or to institutions of higher education.
In 2012, several states have applied for and received waivers from various provisions of NCLB.
As part of those waivers, the states have proposed alternative accountability avenues that the
U.S. Department of Education has accepted as conditions to granting the waivers. We anticipate
that states will continue to seek waivers from NCLB, however the impact of such waivers on the
states and schools in which we operate is not clear at this point.
(cid:127) Individuals with Disabilities Education Act (‘‘IDEA’’). The IDEA is implemented through
regulations governing every aspect of the special education of a child with one or more of the
27
specific disabilities listed in the act. The IDEA created a responsibility on the part of a school to
identify students who may qualify under the IDEA and to perform periodic assessments to
determine the students’ needs for services. A student who qualifies for services under the IDEA
must have in place an individual education plan, which must be updated at least annually,
created by a team consisting of school personnel, the student, and the parent. This plan must be
implemented in a setting where the child with a disability is educated with non-disabled peers to
the maximum extent appropriate. The act provides the student and parents with numerous
procedural rights relating to the student’s program and education, including the right to seek
mediation of disputes and make complaints to the state education agency. The schools we
manage are responsible for ensuring the requirements of this act are met. The virtual public
schools and blended schools could be required to comply with requirements in the act
concerning teacher certification and training. We, the virtual public school or the blended school
could be required to provide additional staff, related services and supplemental aids and services
at our own cost to comply with the requirement to provide a free appropriate public education
to each child covered under the IDEA. If we fail to meet this requirement, we, the virtual public
school or blended school could lose federal funding and could be liable for compensatory
educational services, reimbursement to the parent for educational service the parent provided
and payment of the parent’s attorney’s fees.
(cid:127) Section 504 of the Rehabilitation Act of 1973. A virtual public school or blended school receiving
federal funds is subject to Section 504 of the Rehabilitation Act of 1973 (‘‘Section 504’’) insofar
as the regulations implementing the act govern the education of students with disabilities as well
as personnel and parents. Section 504 prohibits discrimination against a person on the basis of
disability in any program receiving federal financial assistance if the person is otherwise qualified
to participate in or receive benefit from the program. Students with disabilities not specifically
listed in the IDEA may be entitled to specialized instruction or related services pursuant to
Section 504 if their disability substantially limits a major life activity. There are many similarities
between the regulatory requirements of Section 504 and the IDEA; however this is a separate
law which may require a virtual public school or blended school to provide a qualified student
with a plan to accommodate his or her disability in the educational setting. If a school fails to
comply with the requirements and the procedural safeguards of Section 504, it may lose federal
funds even though these funds flow indirectly to the school through a local board. In the case of
bad faith or intentional wrongdoing, some courts have awarded monetary damages to prevailing
parties in Section 504 lawsuits.
(cid:127) Family Educational Rights and Privacy Act. Virtual public schools and blended schools are also
subject to the Family Educational Rights and Privacy Act which protects the privacy of a
student’s educational records and generally prohibits a school from disclosing a student’s records
to a third party without the parent’s prior consent. The law also gives parents certain procedural
rights with respect to their minor children’s education records. A school’s failure to comply with
this law may result in termination of its eligibility to receive federal education funds.
(cid:127) Communications Decency Act. The Communications Decency Act of 1996 (‘‘CDA’’) provides
protection for online service providers against legal action being taken against them because of
certain actions of others. For example, the CDA states that no provider or user of an interactive
computer service shall be treated as the publisher or speaker of any data given by another
provider of information content. Further, Section 230 of the CDA grants interactive online
services of all types, broad immunity from tort liability so long as the information at issue is
provided or posted by a third party. As part of our technology services offering, we provide an
online school platform on which teachers and students may communicate. We also conduct live
classroom sessions using Internet-based collaboration software and we offer certain online
community platforms for students and parents. While the CDA affords us with some protection
from liability associated with the interactive online services we offer, there are exceptions to the
CDA that could result in successful actions against us that give rise to financial liability.
28
If we fail to comply with other federal laws, including federal civil rights laws not specific to
education programs, we could be determined ineligible to receive funds from federal programs or face
criminal or civil penalties. Finally, there are also other federal laws and regulations that affect other
aspects of our business such as the identify theft rules adopted by the Federal Trade Commission and
for which we have adopted policies to ensure compliance.
ITEM 1A. RISK FACTORS
Risks Related to Government Funding and Regulation of Public Education
Most of our revenues depend on per pupil funding amounts and payment formulas remaining near the levels
existing at the time we execute service agreements with the Managed Public Schools we serve. If those funding
levels or formulas are materially reduced or modified due to economic conditions or political opposition, new
restrictions adopted or payments delayed, our business, financial condition, results of operations and cash
flows could be adversely affected.
The public schools we contract with are financed with government funding from federal, state and
local taxpayers. Our business is primarily dependent upon those funds. Budget appropriations for
education at all levels of government are determined through the political process, which may also be
affected by conditions in the economy at large, such as the recent recessionary climate in the United
States which led to budgetary pressures on state and local governments. As a result, funding for the
Managed Public Schools we serve has declined and may continue to decline, and experience future
instability. The political process and general economic conditions create a number of risks that could
have an adverse effect on our business including the following:
(cid:127) Legislative proposals can and have resulted in budget or program cuts for public education,
including the virtual and blended public schools and school districts we serve, and therefore have
reduced and could potentially limit or eliminate the products and services those schools purchase
from us, causing our revenues to decline. From time to time, proposals are introduced in state
legislatures that single out virtual and blended public schools for disparate treatment. For
example, in 2011, an education budget was proposed in Arizona that would have impacted the
per pupil funding for the Arizona Virtual Academy although ultimately, those proposed funding
cuts were not enacted into law.
(cid:127) Economic conditions could reduce state education funding for all public schools, and could be
disproportionate for the Managed Public Schools we serve. Our annual revenue growth is
impacted by changes in federal, state and district per pupil funding levels. Due to the budgetary
problems arising from the recession, many states have reduced per pupil funding for public
education affecting many of the public schools we serve, including even abrupt mid-year cuts in
certain states, which in some cases were retroactively applied to the start of the school year as a
result of formulaic adjustments. While the American Recovery and Reinvestment Act of 2009
and the Education Jobs and Medicaid Assistance Act of 2010 provided temporary stimulus funds
to states, it did not fully offset the state funding reductions, and have now generally expired. Our
financial results reflect the state funding reductions, federal funds provided and expense
reductions that we undertook in order to mitigate the impact of these budget constraints. At this
time, many states still have budget issues. The specific level of federal, state and district funding
for the coming years is not yet known and, taken as a whole, it is reasonable to believe that a
number of the public schools we serve could experience lower per pupil enrollment funding in
the future.
(cid:127) As a public company, we are required to file periodic financial and other disclosure reports with
the SEC. This information may be referenced in the legislative process, including budgetary
considerations, related to the funding of alternative public school options, including virtual
public schools and blended schools. The disclosure of this information by a for-profit education
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company, regardless of parent satisfaction and student performance, may nonetheless be used by
opponents of virtual and blended public schools to propose funding reductions.
(cid:127) From time to time, government funding to schools is not provided when due, which sometimes
causes the affected schools to delay payments to us for our products and services. These
payment delays have occurred in the past and can deprive us of significant working capital until
the matter is resolved, which could hinder our ability to implement our growth strategies and
conduct our business. For example, in fiscal year 2012, due to shortfalls in its general revenue
funds, California announced that it would be deferring its per-student attendance payments to
all public schools until early fiscal year 2013, which significantly increased our accounts
receivable balance.
The poor performance or misconduct by operators of other virtual public schools, public school district virtual
learning programs or blended schools could tarnish the reputation of all the school operators in our industry,
which could have a negative impact on our business.
As a non-traditional form of public education, Managed School operators will be subject to
scrutiny, perhaps even greater than that applied to traditional public schools or charter schools. Not all
virtual public school, school district virtual learning program or blended school operators will have
successful academic programs or operate efficiently, and new entrants may not perform well either.
Such underperforming operators could create the impression that virtual schooling is not an effective
way to educate students, whether or not our learning systems achieve satisfactory performance.
Moreover, some Managed School operators have been subject to governmental investigations alleging
the misuse of public funds or financial irregularities. These allegations have attracted significant adverse
media coverage and have prompted legislative hearings and regulatory responses. Although these
investigations have focused on specific companies and individuals, or even entire industries in the case
of misleading practices by for-profit higher education companies, they may negatively impact public
perceptions of virtual public school, school district virtual learning program or blended school providers
generally, including us. The precise impact of these negative public perceptions on our current and
future business is difficult to discern, in part because of the number of states in which we operate and
the range of particular malfeasance or performance issues involved. We have incurred significant
lobbying costs in several states advocating against harmful legislation which, in our opinion, was
aggravated by negative media coverage about us or other Managed School operators. If these few
situations, or any additional misconduct, cause all virtual public school, school district virtual learning
program and blended school providers to be viewed by the public and/or policymakers unfavorably, we
may find it difficult to enter into or renew contracts to operate virtual or blended schools. In addition,
this perception could serve as the impetus for more restrictive legislation, which could limit our future
business opportunities. Finally, as we seek to provide online courses and supporting systems to higher
education institutions, allegations of abuse of federal financial aid funds and other statutory violations
against for-profit higher education companies, could negatively impact our opportunity to succeed in
this market through increased regulation and decreased demand.
Opponents of virtual and blended public schools have sought to challenge the establishment and expansion of
such schools through the judicial process. If these interests prevail, it could damage our ability to sustain or
grow our current business or expand in certain jurisdictions.
We have been, and will likely continue to be, subject to public policy lawsuits filed against virtual
and blended schools by those who do not share our belief in the value of this form of public education.
Whether or not we are a named party to these lawsuits, legal claims have involved challenges to the
constitutionality of authorizing statutes, methods of instructional delivery, funding provisions and the
respective roles of parents and teachers. For example, in May 2011, the Georgia Supreme Court ruled
in Gwinnett County School District v. Cox et al. (Case No. S10A1773) that the Georgia State legislature
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exceeded its authority by creating a commission to authorize public charter schools that compete with
local public school districts. Although the Georgia Cyber Academy online charter school we serve
(‘‘GCA’’) was established under a different charter school statute that was not at issue in the case, a
potential increase in funding for students who attend GCA was negatively affected.
The failure of the Managed Public Schools we serve to comply with applicable government regulations could
result in a loss of funding and an obligation to repay funds previously received, which could adversely affect
our business, financial condition and results of operations.
Once authorized by law, virtual and blended public schools are generally subject to extensive
regulation. These regulations cover specific program standards and financial requirements including, but
not limited to: (i) student eligibility standards; (ii) numeric and geographic limitations on enrollments;
(iii) state-specific curriculum requirements; (iv) restrictions on open-enrollment policies by and among
districts; and (v) in some cases prescribed teacher: student ratios and teacher funding allocations from
per pupil funding. State and federal funding authorities conduct regular program and financial audits of
virtual and blended public schools, including the Managed Public Schools we serve, to ensure
compliance with applicable regulations. If a virtual or blended public school we serve is found to be
noncompliant, it can be barred from receiving additional funds and could be required to repay funds
received during the period of non-compliance, which could impair that school’s ability to pay us for
services in a timely manner, if at all. Additionally, the indemnity provisions in our standard service
agreements with virtual and blended public schools may require us to return any contested funds on
behalf of the school. For example, in 2010, an audit was completed of a fully-managed virtual school we
serve in Washington State that involved the quality of documentation, and interpretation of the rules
governing such documentation, maintained by the school district for statewide enrollments and student-
teacher contacts. Without any admissions of liability, the school district agreed to reimburse the state
for a significantly-reduced portion of the originally disputed amount to be paid over a period of four
years. Pursuant to our management agreement, we agreed to indemnify the school district for these
payments.
Virtual and blended public schools are relatively new, and enabling legislation therefore is often ambiguous
and subject to discrepancies in interpretation by regulatory authorities, which may lead to disputes over our
ability to invoice and receive payments for services rendered.
Statutory language providing for virtual and blended public schools is sometimes interpreted by
regulatory authorities in ways that may vary from year to year making compliance subject to
uncertainty. More issues normally arise during our first few school years of doing business in a state
because the enabling legislation often does not address specific issues, such as what constitutes proper
documentation for enrollment eligibility in a virtual or blended school. We normally work through these
issues and come to an agreement with the regulatory authorities on these details, although from time to
time, there are changes to the regulators’ approach to determining the eligibility of virtual or blended
school students for funding purposes. Another issue may be differing interpretations on what
constitutes a student’s substantial completion of a semester in a public school. These regulatory
uncertainties may lead to disputes over our ability to invoice and receive payments for services
rendered, which could adversely affect our business, financial condition and results of operations.
The operation of virtual and blended public charter schools depends on the maintenance of the authorizing
charter and compliance with applicable laws. If these charters are not renewed, our contracts with these
schools would be terminated.
In many cases, virtual and blended public schools operate under a charter that is granted by a
state or local authority to the charter holder, such as a community group or an established
not-for-profit corporation, which typically is required by state law to qualify for student funding. In
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fiscal year 2012, approximately 83% of our revenue was derived from Managed Public schools, the
majority of which were virtual and blended public schools operating under a charter. The service
agreement for these schools is with the charter holder or the charter board. Non-profit charter schools
qualifying for exemption from federal taxation under Code Section 501(c)(3) as charitable organizations
must also operate on an arms-length basis in accordance with Internal Revenue Service rules and
policies to maintain that status and their funding eligibility. In addition, all state charter school statutes
require periodic reauthorization. While none of the virtual and blended public schools we manage have
failed to maintain their authorizing charter, if a virtual or blended public school we manage fails to
maintain its tax-exempt status and funding eligibility, or if its charter is revoked for non-performance or
other reasons that may be due to actions of the independent charter board completely outside of our
control, our contract with that school would be terminated. For example, in July 2009, the Pennsylvania
Department of Education (‘‘PDE’’) instituted charter revocation proceedings against the Agora Cyber
Charter School based on allegations of charter violations and non-compliance with state charter school
and other laws by the independent charter board, even though the PDE had no complaints against us.
However, the charter was renewed for five years on June 30, 2010, following PDE approval of a new
board and management contract with us.
Actual or alleged misconduct by our senior management and directors or officials could make it more difficult
for us to enter into new contracts or renew existing contracts.
If any of our directors, officers, key employees or officials are accused or found to be guilty of
serious crimes, including the mismanagement of public funds, the schools we serve could be barred or
discouraged from entering into or renewing service agreements with us. As a result, our business and
revenues would be adversely affected.
New laws or regulations not currently applicable to for-profit education companies in the K-12 sector could be
enacted and negatively impact our operations and financial results.
As the provision of online K-12 public education matures, novel issues may arise that could lead to
the enactment of new laws or regulations similar to, or in addition to, laws or regulations applicable to
other areas of education and education at different levels. For example, for-profit education companies
that own and operate post-secondary colleges depend in significant respect on student loans provided
by the federal government to cover tuition expenses, and federal laws prohibit incentive compensation
for success in securing enrollments or financial aid to any person engaged in student recruiting or
admission activities. In contrast, while students in virtual or blended public K-12 schools are entitled to
a free public education with no federal or state loans necessary for tuition, similar laws could be
enacted that make for-profit management companies serving such schools subject to similar restrictions
Risks Related to Our Business and Our Industry
The schools we contract with and serve are governed by independent governing bodies that may shift their
priorities or change objectives in ways adverse to us, or react negatively to acquisitions or other transactions.
We contract with and provide a majority of our products and services to virtual and blended public
schools blended governed by independent boards or similar governing bodies. While we typically share
a common objective at the outset of our business relationship, over time our interests could diverge,
such as may result from an acquisition that includes another online public school that seeks to enroll
students from the same geographic territory. If these independent boards of the schools or school
districts we serve subsequently shift their priorities or change objectives, and as a result reduce the
scope or terminate their relationship with us, our ability to generate revenues would be adversely
affected if an alternative virtual or blended public school blended we serve is not available to enroll the
affected students.
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Our contracts with the Managed Public Schools we serve are subject to periodic renewal, and each year
several of these agreements are set to expire. If we are unable to renew several such contracts or if a single
significant contract expires during a given year, our business, financial condition, results of operations and
cash flow could be adversely affected.
We have contracts to provide our full range of products and services to virtual and blended public
schools in 32 states and the District of Columbia. Some of these contracts are scheduled to expire in
any given year although the expiration of any single contract is not necessarily significant because of
the numerous Managed Public Schools contracts we assumed in connection with our acquisitions of
KCDL and KVE. We usually begin to engage in renewal negotiations during the final year of these
contracts. In order to renew these contracts, we have to enter into negotiations with the independent
boards of these virtual and blended public schools blended. Historically we have been successful in
renewing these contracts, but such renewals typically contain revised terms, which may be more or less
favorable than the terms of the original contract. While schools with valid charters could decide not
continue to renew their contracts upon expiration, each renegotiation is unique and, if we are unable to
renew several such contracts or one significant contract expires during a given year, or if such renewals
have significantly less favorable terms than existing contracts, or an underlying charter is revoked or not
renewed, our business, financial condition, results of operations and cash flow could be adversely
affected.
If we fail to remain profitable, achieve further marketplace acceptance for our products and services, or fail to
enroll or reenroll a sufficient number of students, our business, financial condition and results of operations
will be adversely affected.
The first virtual public schools we serve began enrolling students in the 2001-02 school year. We
first achieved positive income from operations in the fiscal year ended June 30, 2006. Prior to that
period, we sustained cumulative net losses totaling approximately $90 million. In fiscal year 2011, we
also embarked on a diversification and acquisition plan to leverage our core competencies by selling
our products and services to school districts and private schools. There can be no guarantee that we
will remain profitable, or that our products and services will achieve further marketplace acceptance.
Our marketing efforts may not generate a sufficient number of new or returning student enrollments to
sustain our business plan, especially as the mix of student enrollments based on grade level and
academic record evolves; our capital and operating costs may exceed planned levels; and we may be
unable to develop and enhance our service offerings to meet the demands of all of our public school
and private pay customers. In addition, we actively manage our labor costs and our overall profitability
can be negatively impacted by increases in competitive market salaries or any organization of labor. If
we are not successful in managing our business and operations, our financial condition and results of
operations will be adversely affected.
If student performance falls, if NCLB standards are not achieved, if teachers or administrators tamper with
state test scoring or if parent and student satisfaction declines, a significant number of students may not
remain enrolled in a virtual or blended public school that we serve, or charters may not be renewed or
enrollment caps could be put in place, or enrollment practices could be limited and our business, financial
condition and results of operations will be adversely affected.
The success of our business depends on the choice of a family to have their child begin or
continue his or her education in a virtual or blended public school that we serve. This decision is based
on many factors, including student performance and parent and student satisfaction. Students may
perform significantly below state averages or the virtual school or blended school may fail to meet the
standards of the No Child Left Behind Act (NCLB), analogous state standards, or the conditions of
waivers provided to states by the U.S. Department of Education. Like many traditional brick and
mortar public schools, not all of the Managed Public Schools we serve meet the Adequate Yearly
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Progress (AYP) requirements of NCLB, or one of these other benchmarks, as large numbers of new
enrollments from students underperforming in traditional schools can lower overall results or the
underperformance of any one subgroup can lead to the entire school failing to achieve AYP. In
addition, although serving at-risk students is an important aspect of our mission to educate any child
regardless of circumstance, the performance of these students can adversely affect schools’ standing
under federal and state accountability systems. We expect that, as our enrollments increase and the
portion of students that have not used our learning systems for multiple years increases, the average
performance of all students using our learning systems may decrease, even if the individual
performance of other students improves over time. This effect may also be exacerbated if students
enrolled in schools that we acquire are predominately below state proficiency standards. Moreover,
Congress may amend the NCLB statute in ways that positively or negatively impact the schools we
serve. In view of the shortcomings with the AYP performance standards, the Obama administration has
been granting waivers from the NCLB’s requirements in a significant number of states.
Students in the Managed Public Schools we serve are required to periodically complete
standardized state testing and the results of this testing may have an impact on school funding.
Furthermore, if a school experiences repeated poor standardized test results, the NCLB and many state
accountability systems require that a series of escalating remediation actions must be taken at the
school, ultimately leading to closure of the school if the remediation actions are not successful. Further,
teachers or school administrators may engage in altering student test scores in order to achieve these
objectives and avoid the consequences of failing to meet AYP or state proficiency standards. Finally,
parent and student satisfaction may decline as not all parents and students are able to devote the
substantial time and energy necessary to complete our curriculum. A student’s satisfaction may also
suffer if his or her relationship with the virtual school or blended school teacher does not meet
expectations. If a student’s performance or satisfaction declines, students may decide not to remain
enrolled in a virtual public school or blended school that we serve and our business, financial condition
and results of operations will be adversely affected.
Mergers, acquisitions and joint ventures present many risks, and we may not realize the financial and
strategic goals that formed the basis for the transaction.
When strategic opportunities arise to expand our business, we may acquire or invest in other
companies using cash, stock, debt, asset contributions or any combination thereof. We may face risks in
connection with these or other future transactions, including the possibility that we may not realize the
anticipated cost and revenue synergies or further the strategic purpose of any acquisition if our
forecasts do not materialize. The pursuit of acquisitions may divert the resources that could otherwise
be used to support and grow our existing lines of business. Acquisitions may also create multiple and
overlapping product lines that are offered, priced and supported differently, which could cause
customer confusion and delays in service. Customers may decline to renew their contracts or the
contracts of acquired businesses might not allow us to recognize revenues on the same basis. These
transactions may also divert our management’s attention and our ongoing business may be disrupted by
acquisition, transition or integration activities. In addition, we may have difficulty separating,
transitioning and integrating an acquired company’s systems and the associated costs in doing so may
be higher than we anticipate.
There may also be other adverse effects on our business, operating results or financial condition
associated with the expansion of our business through acquisitions. We may fail to identify or assess the
magnitude of certain liabilities, shortcomings or other circumstances prior to acquiring a company or
technology, which could result in unexpected accounting treatment, unexpected increases in taxes due
or a loss of anticipated tax benefits. Our use of cash to pay for acquisitions may limit other potential
uses of our cash, including investment in other areas of our business, stock repurchases, dividend
payments and retirement of outstanding indebtedness. If we issue a significant amount of equity for
34
future acquisitions, existing stockholders may be diluted and earnings per share may decrease. We may
pay more than the acquired company or assets are ultimately worth and we may have underestimated
our costs in continuing the support and development of an acquired company’s products. Our operating
results may be adversely impacted by liabilities resulting from a stock or asset acquisition, which may be
costly, disruptive to our business, or lead to litigation.
We may be unable to obtain required approvals from governmental authorities on a timely basis, if
it all, which could, among other things, delay or prevent us from completing a transaction, otherwise
restrict our ability to realize the expected financial or strategic goals of an acquisition or have other
adverse effects on our current business and operations. We may face contingencies related to
intellectual property, financial disclosures, and accounting practices or internal controls. Finally, we may
not be able to retain key executives of an acquired company.
The occurrence of any of these risks could have a material adverse effect on our business, results
of operations, financial condition or cash flows, particularly in the case of a larger acquisition or several
concurrent acquisitions.
We are implementing a new company-wide enterprise resource planning (ERP) system. The implementation
process is complex and involves a number of risks that may adversely affect our business and results of
operations.
In fiscal year 2011, we began replacing our multiple legacy business systems at different sites with a
new company-wide, integrated ERP system to handle various business, operating and financial
processes. Although Phase 1 is nearing completion, the integration is ongoing. When fully-implemented,
the new system will enhance a variety of important functions, such as order entry, invoicing, accounts
receivable, accounts payable, financial consolidation and internal and external financial and
management reporting matters. ERP implementations are complex and time-consuming projects that
involve substantial expenditures on system hardware and software and implementation activities that
often continue for several years. Such an integrated, wide-scale implementation also requires
transformation of business and financial processes in order to reap the benefits of the ERP system.
Significant efforts are required for requirements identification, functional design, process
documentation, data conversion, user training and post implementation support. Problems in any of
these areas could result in operational issues including delayed billing and accounting errors and other
operational issues. System delays or malfunctioning could also disrupt our ability to timely and
accurately process and report results of our operations, financial position and cash flows, which could
impact our ability to timely complete important business processes.
Until the new ERP system is fully implemented, we expect to incur significant additional selling,
general and administrative expenses and capital expenditures to implement and test the system, and no
assurance can be provided that problems will not be encountered with the new system, that planned
enhancements and updates will not result in significant deficiencies or material weaknesses in our
internal controls in the future, or could result in material misstatements that would require us to
restate our financial statements, cause investors to lose confidence in our ability to report accurate and
timely financial information and have a negative effect on our stock price.
In addition, our business and results of operations may be adversely affected if the ERP
experiences operating problems and/or cost overruns during the implementation process or if the ERP
system and the associated process changes do not function as expected or give rise to the expected
benefits.
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We plan to continue to create new products, expand distribution channels and pilot innovative educational
programs to enhance academic performance. If we are unable to effectively manage these initiatives or they
fail to gain acceptance, our business, financial condition, results of operations and cash flows would be
adversely affected.
As we create and acquire new products, expand our existing customer base and pilot new
educational programs, we expect to face challenges distinct from those we currently encounter,
including:
(cid:127) our continued development of public blended schools and individualized learning centers (also
known as Flex schools) which has produced different operational challenges than those we
previously encountered. In addition to the online component, these schools sometimes require us
to lease facilities for classrooms, staff classrooms with teachers, provide meals and kitchen
facilities, adhere to local safety and fire codes, purchase additional insurance and fulfill many
other responsibilities;
(cid:127) our further expansion into international markets may require us to conduct our business
differently than we do in the United States or in existing countries. Additionally, we may have
difficulty training and retaining qualified teachers or generating sufficient demand for our
products and services in international markets. International opportunities will also present us
with different legal, operational, tax and currency challenges;
(cid:127) the use of our curriculum in classrooms will produce challenges with respect to adapting our
curriculum for effective use in a traditional classroom setting;
(cid:127) our operation of traditional or brick and mortar schools, as well as flex schools used on a
full-time basis by students accessing our curriculum online under the supervision of certified
teachers and supporting instructors, has necessitated different management skills and presented
additional risks compared to those in our core Managed Public Schools business;
(cid:127) our online private school business is dependent on a tuition-based financial model and may not
be able to enroll a sufficient number of students over time to achieve long-run profitability or
deliver a high level of customer satisfaction;
(cid:127) our participation in summer foreign language instruction camps through MIL, our joint venture
with Middlebury College, could generate new legal liabilities and financial consequences
associated with our responsibility for students housed on leased college campuses on a 24-hour
basis over the duration of the camp; and
(cid:127) our continual efforts to innovate and pilot new programs to enhance student learning may not
always succeed or may encounter unanticipated opposition.
Our failure to manage these business expansion programs, or any new business expansion
programs we pursue, may have an adverse effect on our business, financial condition, results of
operations and cash flows.
If demand for increased options in public schooling does not continue or if additional states do not authorize
or adequately fund virtual or blended public schools, our business, financial condition and results of
operations could be adversely affected.
Over the previous four fiscal years, we entered into service agreements for fully-managed virtual
public schools and blended schools in 12 new states bringing our total to 32 states and the District of
Columbia for the 2012-13 school year. If the demand for virtual and blended public schools does not
increase, if the remaining states are hesitant to authorize virtual or blended public schools, if
enrollment caps are not removed or raised, or if the funding of such schools is inadequate, our
business, financial condition and results of operations could be adversely affected.
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Increasing competition in the education industry sectors that we serve could lead to pricing pressures, reduced
operating margins, loss of market share, departure of key employees and increased capital expenditures.
As a general matter, we face varying degrees of competition from several discrete education
providers because our learning systems integrate all the elements of the education development and
delivery process, including curriculum development, textbook publishing, teacher training and support,
lesson planning, testing and assessment and school performance and compliance management. In our
Managed Public Schools and Institutional Business, we compete with companies that provide online
curriculum and support services . We also compete with public school districts that offer K-12 online
programs of their own or in partnership with other online curriculum vendors. In certain jurisdictions,
we expect intense competition from such competitors and by new entrants. Our competitors may adopt
similar curriculum delivery, school support and marketing approaches, with different pricing and service
packages that may have greater appeal than our offerings. If we are unable to successfully compete for
new business, win and renew contracts or students fail to realize sufficient gains in academic
performance, our revenue growth and operating margins may decline. Price competition from our
current and future competitors could also result in reduced revenues, reduced margins or the failure of
our product and service offerings to achieve or maintain more widespread market acceptance.
We may also face competition from publishers of traditional educational materials that are
substantially larger than we are and have significantly greater financial, technical and marketing
resources, and may enter the field through acquisitions and mergers. As a result, they may be able to
devote more resources and move quickly to develop products and services that are superior to our
platform and technologies. We may not have the resources necessary to acquire or compete with
technologies being developed by our competitors, which may render our online delivery format less
competitive or obsolete. These new and well-funded entrants may also seek to attract our key
executives as employees based on their acquired expertise in virtual education where such specialized
skills are not widely available.
Our future success will depend in large part on our ability to maintain a competitive position with
our curriculum and our technology, as well as our ability to increase capital expenditures to sustain the
competitive position of our product and retain our talent base. We cannot assure you that we will have
the financial resources, technical expertise, marketing, distribution or support capabilities to compete
effectively.
Regulatory frameworks on the accessibility of technology are continually evolving due to legislative and
administrative developments and the rapid evolution of technology, which could result in increased product
development costs and compliance risks.
Our online curriculum is made available to students through computers and other display devices
connected to the Internet. This curriculum includes a combination of software applications that include
graphics, pictures, videos, animations, sounds and interactive content that present challenges to people
with disabilities. A number of states have considered or are considering how electronic and information
technology procured with state funds should be made accessible to persons with such disabilities. To the
extent they enact laws and regulations to require greater accessibility, we might have to modify our
curriculum offerings to satisfy those requirements. In addition, to the extent that we enter into federal
government contracts, similar requirements could be imposed on us under Section 508 of the
Rehabilitation Act of 1974. We expect that we will continue to modify and improve our curriculum so
that it can be made available to the widest audience possible. However, if requirements or technology
evolves in such a way as to accelerate or alter the need to make all curriculum accessible, we could
incur significant product development costs on an accelerated basis. A failure to meet required
accessibility needs could also result in loss or termination of significant contracts or in potential legal
liability.
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We generate significant revenues from two virtual public schools, and the termination, revocation, expiration
or modification of our contracts with these virtual public schools could adversely affect our business, financial
condition and results of operation.
In fiscal year 2012, we derived approximately 12% and 13% of our revenues, respectively, from the
Ohio Virtual Academy and the Agora Cyber Charter School in Pennsylvania. In aggregate, these
schools accounted for approximately 25% of our total revenues. If our contracts with either of these
virtual public schools are terminated, the charters to operate either of these schools are not renewed or
are revoked, enrollments decline substantially, funding is reduced, or more restrictive legislation is
enacted, our business, financial condition and results of operations could be adversely affected.
Highly qualified teachers are critical to the success of our learning systems. If we are not able to continue to
recruit, train and retain quality certified teachers, our curriculum might not be effectively delivered to
students, compromising their academic performance and our reputation with the Managed Public Schools we
serve. As a result, our brand, business and operating results may be adversely affected.
Effective teachers are critical to maintaining the quality of our learning systems and assisting
students with their daily lessons. Teachers in the public schools we manage must be state certified and
have strong interpersonal communications skills to be able to effectively instruct students in a virtual
school setting. They must also possess the technical skills to use our technology-based learning systems.
There is a limited pool of teachers with these specialized attributes and the Managed Public Schools we
serve must provide competitive compensation packages to attract and retain such qualified teachers.
The teachers in most Managed Public Schools we serve are not our employees and the ultimate
authority relating to those teachers resides with the governing body overseeing the schools. However,
under many of our service agreements with virtual public schools and blended schools, we have
responsibility to recruit, train and manage these teachers. We must also provide continuous training to
virtual and blended public school blended teachers so that they can stay abreast of changes in student
demands, academic standards and other key trends necessary to teach online effectively. We may not be
able to recruit, train and retain enough qualified teachers to keep pace with our growth while
maintaining consistent teaching quality in the various Managed Public Schools we serve. Shortages of
qualified teachers or decreases in the quality of our instruction, whether actual or perceived, would
have an adverse effect on our business.
Our business is subject to seasonal fluctuations, which may cause our operating results to fluctuate from
quarter-to-quarter and adversely impact our working capital and liquidity throughout the year.
Our revenues and operating results normally fluctuate as a result of seasonal variations in our
business, principally due to the number of months in a fiscal quarter that our school customers are fully
operational and serving students. In the typical academic year, our first and fourth fiscal quarters have
fewer than three full months of operations, whereas our second and third fiscal quarters will have three
complete months of operations. We ship learning kits to students in the beginning of the school year,
our first fiscal quarter, generally resulting in higher learning kit revenues and margins in the first fiscal
quarter relative to the other quarters. In aggregate, the seasonality of our revenues has generally
produced higher revenues in the first quarter of our fiscal year.
Our operating expenses are also seasonal. Instructional costs and services increase in the first fiscal
quarter primarily due to the costs incurred to ship learning kits at the beginning of the school year.
These instructional costs may increase significantly quarter-to-quarter as school operating expenses
increase. The majority of our selling and marketing expenses are incurred in the first and fourth fiscal
quarters, as our primary enrollment season is July through September.
We expect quarterly fluctuations in our revenues and operating results to continue. These
fluctuations could result in volatility and adversely affect our cash flow. As our business grows, these
38
seasonal fluctuations may become more pronounced. As a result, we believe that sequential quarterly
comparisons of our financial results may not provide an accurate assessment of our financial position.
Our Managed Public School revenues are based in part on our estimate of the total funds each school will
receive in a particular school year and our estimate of the full year expenses to be incurred by each school. As
a result, differences between our quarterly estimates and the actual funds received and expenses incurred could
have an adverse impact on our results of operations and cash flows.
We recognize revenues from certain of our fees to Managed Public Schools ratably over the course
of our fiscal year. To determine the pro rata amount of revenues to recognize in a fiscal quarter, we
estimate the total funds each school will receive in a particular school year. Additionally, we take
responsibility for any operating deficits incurred at most of the Managed Public Schools we serve.
Because this may impair our ability to collect the full amount invoiced in a period and therefore
collection cannot reasonably be assured, we reduce revenues by the estimated pro rata amount of the
school operating loss. We review our estimates of total funds and operating expenses periodically, and
we revise as necessary, amortizing any adjustments over the remaining portion of the fiscal year. Actual
school funding received and school operating expenses incurred may vary from our estimates or
revisions and could adversely impact our results of operations and cash flows.
The continued development of our product and service brands is important to our business. If we are not able
to maintain and enhance these brands, our business and operating results may suffer.
Enhancing brand awareness is critical to attracting and retaining students, and for serving
additional virtual and blended public schools, school districts and online private schools and we intend
to spend significant resources to accomplish that objective. These efforts include sales and marketing
directed to targeted locations as well as the national marketplace, discreet student populations, the
educational community at large, key political groups, image-makers and the media. We believe that the
quality of our curriculum and management services has contributed significantly to the success of our
brands. As we continue to increase enrollments and extend our geographic reach and product and
service offerings, maintaining quality and consistency across all of our services and products may
become more difficult to achieve, and any significant and well-publicized failure to maintain this quality
and consistency will have a detrimental effect on our brands. We cannot provide assurances that our
new sales and marketing efforts will be successful in further promoting our brands in a competitive and
cost effective manner. If we are unable to further enhance our brand recognition and increase
awareness of our products and services, or if we incur excessive sales and marketing expenses, our
business and results of operations could be adversely affected.
Our intellectual property rights are valuable, and any inability to protect them could reduce the value of our
products, services and brand.
Our patent, trademarks, trade secrets, copyrights, domain names and other intellectual property
rights are important assets. For example, we have been granted two patents relating to the hardware
and network infrastructure of our OLS, including the system components for creating and administering
assessment tests and our lesson progress tracker and two patents related to foreign language
instruction. Additionally, we are the copyright owner of the courses comprising our proprietary
curriculum.
Various events outside of our control pose a threat to our intellectual property rights. For instance,
effective intellectual property protection may not be available in every country in which our products
and services are distributed or made available through the Internet. Also, the efforts we have taken to
protect our proprietary rights may not be sufficient or effective. Any significant impairment of our
intellectual property rights could harm our business or our ability to compete. Also, protecting our
39
intellectual property rights is costly and time consuming. Any unauthorized use of our intellectual
property could make it more expensive to do business and harm our operating results.
Although we seek to obtain patent protection for our innovations, it is possible that we may not be
able to sufficiently protect some of these innovations. In addition, given the costs of obtaining patent
protection, we may choose not to protect certain innovations that later turn out to be important.
Furthermore, there is always the possibility, despite our efforts, that the scope of the protection gained
will be insufficient or that an issued patent may be deemed invalid or unenforceable.
We also seek to maintain certain intellectual property as trade secrets. This secrecy could be
compromised by outside parties, whether through breach of our network security or otherwise, or by
our employees or former employees, intentionally or accidentally, which would cause us to lose the
competitive advantage resulting from these trade secrets. Third parties may acquire domain names that
are substantially similar to our domain names leading to a decrease in the value of our domain names
and trademarks and other proprietary rights.
Lawsuits against us alleging infringement of the intellectual property rights of others and such actions would
be costly to defend, could require us to pay damages or royalty payments and could limit our ability or
increase our costs to use certain technologies in the future.
Companies in the Internet, software, technology, education, curriculum and media industries own
large numbers of patents, copyrights, trademarks and trade secrets and frequently enter into litigation
based on allegations of infringement or other violations of intellectual property rights. Regardless of
the merits, intellectual property claims are time-consuming and expensive to litigate or settle. In
addition, to the extent claims against us are successful, we may have to pay substantial monetary
damages or discontinue certain our products, services or practices that are found to be in violation of
another party’s rights. We also may have to seek a license and make royalty payments to continue
offering our products and services or following such practices, which may significantly increase our
operating expenses.
We may be subject to legal liability resulting from the actions of third parties, including independent
contractors, business partners, or teachers, which could cause us to incur substantial costs and damage our
reputation.
We may be subject, directly or indirectly, to legal claims associated with the actions of or filed by
our independent contractors, business partners, or teachers. In the event of accidents or injuries or
other harm to students, we could face claims alleging that we were negligent, provided inadequate
supervision or were otherwise liable for their injuries. Additionally, we could face claims alleging that
our independent curriculum contractors or teachers infringed the intellectual property rights of third
parties. A liability claim against us or any of our independent contractors, business partners, or teachers
could adversely affect our reputation, enrollment and revenues. Even if unsuccessful, such a claim could
create unfavorable publicity, cause us to incur substantial expenses and divert the time and attention of
management.
Unauthorized disclosure or manipulation of student, teacher and other sensitive data, whether through breach
of our network security or otherwise, could expose us to costly litigation or could jeopardize our contracts with
virtual public schools or blended schools.
Maintaining our network security and internal controls over access rights is of critical importance
because our Student Administration Management System (‘‘SAMS’’) stores proprietary and confidential
student and teacher information, such as names, addresses, and other personal information. Individuals
and groups may develop and deploy viruses, worms and other malicious software programs that attack
or attempt to infiltrate SAMS.
40
If our security measures are breached as a result of third-party action, employee error,
malfeasance or otherwise, third parties may receive or be able to access student records and we could
be subject to liability or our business could be interrupted. Penetration of our network security could
have a negative impact on our reputation and could lead virtual public schools, blended schools and
parents to choose competitive offerings. As a result, we may be required to expend significant resources
to provide additional protection from the threat of these security breaches or to alleviate problems
caused by these breaches. Additionally, we run the risk that employees or vendors could illegally
disclose confidential educational information.
We rely on the Internet to enroll students and to deliver our products and services to children, which exposes
us to a growing number of legal risks and increasing regulation.
We collect information regarding students during the online enrollment process and a significant
amount of our curriculum content is delivered over the Internet. As a result, specific federal and state
laws that could have an impact on our business include the following:
(cid:127) the Children’s Online Privacy Protection Act, which restricts the distribution of certain materials
deemed harmful to children and imposes additional restrictions on the ability of online
companies to collect personal information from children under the age of 13;
(cid:127) the Family Educational Rights and Privacy Act, which imposes parental or student consent
requirements for specified disclosures of student information, including online information;
(cid:127) the Communications Decency Act, which provides website operators immunity from most claims
arising from the publication of third-party content; and
(cid:127) numerous state cyberbullying laws which require schools to adopt policies on harassment
through the Internet or other electronic communications.
In addition, the laws applicable to the Internet are still developing. These laws impact pricing,
advertising, taxation, consumer protection, quality of products and services, and are in a state of
change. New or amended laws may also be enacted, which could increase the costs of regulatory
compliance for us or force us to change our business practices. As a result, we may be exposed to
substantial liability, including significant expenses necessary to comply with such laws and regulations.
System disruptions and vulnerability from security risks to our online computer networks could impact our
ability to generate revenues and damage our reputation, limiting our ability to attract and retain students.
The performance and reliability of our technology infrastructure is critical to our reputation and
ability to attract and retain virtual public schools, blended schools, school district customers, parents
and students. Any sustained system error or failure, or a denial of service (‘‘DNS’’) attack, could limit
our users’ access to our online learning systems, and therefore, damage our ability to generate revenues
or provide sufficient documentation to comply with state laws requiring proof that students completed
the required number of hours of instruction. Our technology infrastructure could be vulnerable to
interruption or malfunction due to events beyond our control, including natural disasters, terrorist
activities and telecommunications failures.
41
We utilize a single logistics vendor for the management, receiving, assembly and shipping of all of our
learning kits and printed educational materials. In addition, we utilize another vendor for the reclamation and
redeployment of our student computers. Both of these partnerships depend upon execution on the part of us
and the vendors. Any material failure to execute properly for any reason, including damage or disruption to
either of the vendor’s facilities would have an adverse effect on our business, financial condition and results of
operations.
Substantially all of the inventory for our learning kits and printed materials is located in one
warehouse facility operated by a third-party logistics vendor which handles receipt, assembly and
shipping of all physical learning materials. If this logistics vendor were to fail to meet its obligations to
deliver learning materials to students in a timely manner, or if a material number of such shipments
are incomplete or contain assembly errors, our business and results of operations could be adversely
affected. In addition, we provide computers for a substantial number of our students. Execution or
merger integration failures which interfere with the reclamation or redeployment of computers may
result in additional costs. Furthermore, a natural disaster, fire, power interruption, work stoppage or
other unanticipated catastrophic event, especially during the period from May through September when
we are awaiting receipt of most of the curriculum materials for the school year and have not yet
shipped such materials to students, could significantly disrupt our ability to deliver our products and
operate our business. If any of our material inventory items were to experience any significant damage,
we would be unable to meet our contractual obligations and our business would suffer.
Any significant interruption in the operations of our data centers could cause a loss of data and disrupt our
ability to manage our network hardware and software and technological infrastructure.
We host our products and serve all of our students from third-party data center facilities. As part
of our risk mitigation plan, we opened a second data center. Even with such redundancy, we may not
be able to prevent a significant interruption in the operation of these facilities or the loss of school and
operational data due to a natural disaster, fire, power interruption, act of terrorism or other
unanticipated catastrophic event. Any significant interruption in the operation of these facilities,
including an interruption caused by our failure to successfully expand or upgrade our systems or
manage our transition to utilizing the expansions or upgrades, could reduce our ability to manage our
network and technological infrastructure, which could result in lost sales, enrollment terminations and
impact our brand reputation.
Additionally, we do not control the operation of these facilities and must rely on another party to
provide the physical security, facilities management and communications infrastructure services related
to our data centers. Although we believe we would be able to enter into a similar relationship with
another party should this relationship fail or terminate for any reason, our reliance on a single vendor
exposes us to risks outside of our control. If this vendor encounters financial difficulty such as
bankruptcy or other events beyond our control that causes it to fail to secure adequately and maintain
its hosting facilities or provide the required data communications capacity, students of the schools we
serve may experience interruptions in our service or the loss or theft of important customer data.
Any significant interruption in the operations of our enrollment centers could disrupt our ability to
recommend educational options to parents, respond to service requests and process enrollments.
Our primary enrollment center operations are housed in our corporate headquarters, with
secondary facilities in several other locations in the United States. To mitigate operating risk in certain
high volume queues, we have the ability to reroute calls to other facilities if a certain facility is unable
to temporarily service calls. This plan may not be able to prevent a significant interruption in the
operation of any of the facilities due to natural disasters, accidents, failures of our fulfillment provider.
However, we have the ability to respond to a service interruption to lessen its impact on customers.
Any significant interruption in the operation of any primary facility, including an interruption caused by
42
our failure to successfully expand or upgrade our systems or to manage these expansions or upgrades,
could reduce our ability to respond to service requests, receive and process orders and provide products
and services, which could result in lost and cancelled sales, and damage to our brand reputation.
Capacity limits on some of our technology, transaction processing systems and network hardware and software
may be difficult to project and we may not be able to expand and upgrade our systems in a timely manner to
meet significant unexpected increased demand.
As the number of schools we serve increases and our student base grows, the traffic on our
transaction processing systems and network hardware and software will rise. We may be unable to
accurately project the rate of increase in the use of our transaction processing systems and network
hardware and software. In addition, we may not be able to expand and upgrade our systems and
network hardware and software capabilities to accommodate significant unexpected increased use. If we
are unable to appropriately upgrade our systems and network hardware and software in a timely
manner, our operations and processes may be temporarily disrupted.
We may be unable to keep pace with changes in technology as our business and market strategy evolves.
As our business and market strategy evolves, we will need to respond to technological advances
and emerging industry standards in a cost-effective and timely manner in order to remain competitive.
The need to respond to technological changes may require us to make substantial, unanticipated
expenditures. There can be no assurance that we will be able to respond successfully to technological
change.
Pursuant to our joint venture agreement with Middlebury College, there is a risk that Middlebury College
might exercise its right to require us to purchase its ownership interest in our joint venture at fair market
value which could adversely affect our financial condition.
A key provision in our joint venture agreement with Middlebury College is its right beginning on
April 14, 2015 and upon 180 days advance notice, to require us to purchase all, but not a portion of, its
ownership interest in our joint venture at fair market value and based on an independent appraisal. We
have the right to pay the redemption cost in cash, stock or a combination thereof, at our option. It is
uncertain when or whether Middlebury College would elect to exercise this right and therefore, we
cannot at this time determine the form of the redemption payment and therefore the exact impact to
our financial condition or dilution to stockholders.
We may be unable to attract and retain skilled employees.
Our success depends in large part on continued employment of senior management and key
personnel who can effectively operate our business. If any of these employees leave us and we fail to
effectively manage a transition to new personnel, or if we fail to attract and retain qualified and
experienced professionals on acceptable terms, our business, financial conditions and results of
operations could be adversely affected.
Our success also depends on our having highly trained financial, technical, recruiting, sales and
marketing personnel. We will need to continue to hire additional personnel as our business grows. A
shortage in the number of people with these skills or our failure to attract them to our Company could
impede our ability to increase revenues from our existing products and services, ensure full compliance
with federal and state regulations, launch new product offerings, and would have an adverse effect on
our business and financial results.
43
We may need additional capital in the future, but there is no assurance that funds will be available on
acceptable terms.
We may need to raise additional funds in order to achieve growth or fund other business
initiatives. This financing may not be available in sufficient amounts or on terms acceptable to us and
may be dilutive to existing stockholders. Additionally, any securities issued to raise funds may have
rights, preferences or privileges senior to those of existing stockholders. If adequate funds are not
available or are not available on acceptable terms, our ability to expand, develop or enhance services or
products, or respond to competitive pressures will be limited.
Our curriculum and approach to instruction may not achieve widespread acceptance, which would limit our
growth and profitability.
The curriculum offerings and approach to individualized learning are based on the structured
delivery, clarification, verification and practice of lesson subject matter. Our goal is to make students
proficient at the fundamentals, promote annual growth in learning achievement and instill confidence in
a subject prior to confronting new and complex concepts. While our curriculum is aligned with state
standards in the jurisdictions where we manage virtual and blended public schools and these schools
offer accredited diplomas, this approach is not accepted by all academics and educators, who may favor
less formalistic methods and have the ability to negatively influence the market for our products and
services. In addition, although our curriculum generally aligns well to the Common Core State
Standards now in development, the assessment of those standards remains to be completed as does the
timing for implementation. As a result, the final CCSS implementation model could vary from state to
state, and even from district to district, and therefore, we cannot anticipate at this time the financial
and education impact these CCSS may have on our business and financial results.
We previously had and remediated a material weakness in internal control surrounding the project
management of our new Oracle eBusiness Suite system which delayed the year-end close from being completed
in a timely manner.
Last fiscal year, we experienced a material weakness in our internal control over financial
reporting related to the processes surrounding the project management of our ERP implementation,
which prevented us from completing our year-end close on schedule and from filing our Form 10-K in
a timely manner. Over the course of fiscal year 2012, management dedicated the necessary attention
and resources towards our ERP implementation and remediated this material weakness; however, we
cannot assure you that additional significant deficiencies or material weaknesses in our internal control
over financial reporting will not be identified in the future. The existence of a future material weakness
could result in errors in our financial statements that could result in a restatement of our financial
statements, cause us to fail to meet our reporting obligations and cause investors to lose confidence in
our reported financial information, leading to a decline in our stock price.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
ITEM 2. PROPERTIES
Our headquarters are located in approximately 171,000 square feet of office space in Herndon,
Virginia. The property is leased until May 2022. We lease approximately 87,000 square feet in multiple
locations under individual leases that expire between November 2012 and October 2016.
44
ITEM 3. LEGAL PROCEEDINGS
In the ordinary conduct of our business, we are subject to lawsuits, arbitrations and administrative
proceedings from time to time.
On October 26, 2011, IpLearn, LLC (‘‘IpLearn’’) filed a complaint for patent infringement against
the Company in the United States District Court for the District of Delaware, IpLearn, LLC v. K12 Inc.,
Case No. 1:11-1026-LPS, which it subsequently amended on November 18, 2011. IpLearn is a
privately-held technology development and licensing company for web and computer-based learning
technologies. In its complaint, IpLearn alleges that the Company has infringed three of its patents for
various computer-aided learning methods and systems. On July 2, 2012, the Court granted the Company’s
motion to dismiss IpLearn’s allegations of indirect patent infringement and allowed IpLearn’s allegations
of direct patent infringement to proceed. The discovery process is currently in progress.
On January 30, 2012, a securities class-action lawsuit captioned Hoppaugh v. K12 Inc., was filed
against the Company and two of its officers in the United States District Court for the Eastern District
of Virginia, Hoppaugh v. K12. Inc., Case No. 1: 12-CV-00103-CMH-IDD. The plaintiff purports to
represent a class of persons who purchased or otherwise acquired K12 common stock between
September 9, 2009 and December 16, 2011, inclusive, and alleges violations by the defendants of
Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder. The plaintiff
alleges, among other things, that the defendants made false or misleading statements of material fact,
or failed to disclose material facts, about (i) the Company’s financial results during the class period,
(ii) the academic performance of the virtual schools served by the Company, and (iii) certain school
administrative practices and sales strategies related to enrollments. On May 18, 2012, the Court
appointed the Arkansas Teacher Retirement System as lead plaintiff, and it filed an amended class
action complaint (the ‘‘Amended Complaint’’) on June 22, 2012. The plaintiff seeks unspecified
compensatory damages and other relief. The Company intends to defend vigorously against the claims
asserted in the Amended Complaint, and filed a motion to dismiss on July 20, 2012. In addition to the
above described stockholder class action, on March 21, 2012, a federal stockholder derivative action,
Jared Staal v. Tisch. et. al., Case No. 1: 12-CV-00365-SLR, putatively initiated on behalf of the
Company, was filed in the United States District Court for the District of Delaware. By stipulation, all
matters in this derivative action have been stayed until the motions to dismiss the Amended Complaint
are decided. The Board of Directors received a shareholder demand letter, dated August 16, 2012, that
asserted allegations against various directors, senior officers and employees of K12 similar to those
made in the previously disclosed securities class action and derivative lawsuits. The shareholder
requested that the Board investigate and pursue claims related to breach of fiduciary duty on behalf of
the Company. The Board will consider the demand and take appropriate action.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
45
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock, par value $0.0001 per share, is traded on the New York Stock Exchange (the
‘‘NYSE’’) under the symbol ‘‘LRN.’’ Set forth below are the high and low sales prices for our common
stock, as reported on the NYSE. As of September 7, 2012, there were 50 registered holders of our
common stock.
Quarter ended:
June 30, 2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
March 31, 2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
December 31, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
September 30, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
June 30, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
March 31, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
December 31, 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
September 30, 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
High
Low
$26.38
26.11
37.00
35.00
$39.74
34.08
29.42
29.71
$19.05
17.07
17.31
23.37
$31.16
27.17
23.26
21.21
46
Stock Performance Graph
The graph below matches the cumulative eighteen quarter total return of holders of K12 Inc.’s
common stock with the cumulative total returns of the S&P 500 index, the NASDAQ Composite index,
the Russell 2000 index, our new Peer Group Index and our old Peer Group Index*. The graph assumes
that the value of the investment in the company’s common stock, in each index (including reinvestment
of dividends) was $100 on December 13, 2007 (the date of our initial public offering) and tracks it
through June 30, 2012.
COMPARISON OF EIGHTEEN QUARTER CUMULATIVE TOTAL RETURN
Among K12 Inc., S&P 500 Index, NASDAQ Composite Index, Russell 2000 Index and Peer Group Indices
LRN
Old Peer Group Index
New Peer Group Index
S&P 500
Russell 2000
Nasdaq Composite
200
150
s
r
a
l
l
o
D
100
50
0
12/13/2007
6/30/2008
6/30/2009
6/30/2010
6/30/2011
7SEP201221023352
6/30/2012
13-Dec-07
30-Jun-08
30-Jun-09
30-Jun-10
30-Jun-11
30-Jun-12
LRN . . . . . . . . . . . . . . . . . . . . . . . . . .
Old Peer Group Index . . . . . . . . . . . . .
New Peer Group Index . . . . . . . . . . . . .
S&P 500 . . . . . . . . . . . . . . . . . . . . . . .
Russell 2000 . . . . . . . . . . . . . . . . . . . .
Nasdaq Composite . . . . . . . . . . . . . . . .
100
100
100
100
100
100
88
81
87
86
90
86
88
96
96
62
66
69
90
108
109
69
79
79
135
99
102
89
108
104
95
NA
90
92
104
110
All prices reflect closing prices on last day of trading at the end of each calendar quarter except
December 13, 2007.
(1) The information presented above in the stock performance graph shall not be deemed
‘‘soliciting material’’ or to be ‘‘filed’’ with the SEC or subject to Regulation 14A or 14C, except to the
extent that we subsequently specifically request that such information be treated as soliciting material
or specifically incorporate it by reference into a filing under the Securities Act of 1933, as amended
(the ‘‘Securities Act’’), or a filing under the Exchange Act.
(2) The stock price performance shown on the graph is not necessarily indicative of future price
performance. Information used in the graph was obtained from a source we believe to be reliable, but
we do not assume responsibility for any errors or omissions in such information.
47
* Peer Group
In 2011, our Peer Group consisted of Ambow Education Holding Ltd.^, American Public
Education Inc., Apollo Group Inc., Archipelago Learning, Inc.^, Blackboard, Inc., Bridgepoint
Education Inc.^, Capella Education Company, Career Education Corp., China Distance Education^,
ChinaCast Education Group, Corinthian Colleges, Inc., Devry Inc., Education Management
Corporation^, Global Education & Tech Group, Ltd.^, Grand Canyon Education Inc.^, ITT
Educational Services, Inc., Lincoln Educational Services Co., McGraw-Hill Companies, Inc., New
Oriental Education and Technology Group, Pearson Education, Renaissance Learning, Inc., Rosetta
Stone Inc.^, Scientific Learning Corporation, Scholastic Corporation, Strayer Education Inc., TAL
Education Group^, Universal Technical Institute, and XUEDA Education Group^.
In 2012, we changed our Peer Group to omit Archipelago Learning, Inc., Blackboard, Inc., Global
Education & Tech Group, Ltd. and Renaissance Learning, Inc. because they were acquired and ceased
trading. We also omitted McGraw-Hill Companies, Inc. and Scientific Learning Corporation as they
publicly announced formal plans to exit the education industry. Ambow Education Holding Ltd., China
Distance Education, ChinaCast Education Group, New Oriental Education and Technology Group,
TAL Education Group and XUEDA Education Group were removed from our Peer Group as a result
of the accounting scandals which have significantly impacted these Chinese stocks. Finally, in the course
of our review of the Peer Group, we removed Corinthian Colleges, Inc. and Lincoln Educational
Services Co. because we do not believe that these companies are still comparable. As a result of these
modifications, our Peer Group now consists of American Public Education Inc., Apollo Group Inc.,
Bridgepoint Education Inc.*, Capella Education Company, Devry Inc., Grand Canyon Education Inc.*,
ITT Educational Services, Inc., Pearson PLC, Rosetta Stone Inc.*, Scholastic Corporation, Strayer
Education Inc. and Universal Technical Institute.
Dividend Policy
We have never declared or paid any cash dividends on our common stock and we currently do not
anticipate paying any cash dividends for the foreseeable future. Instead, we anticipate that all of our
earnings on our common stock will be used to provide working capital, to support our operations, and
to finance the growth and development of our business, including potentially the acquisition of, or
investment in, businesses, technologies or products that complement our existing business. Any future
determination relating to dividend policy will be made at the discretion of our Board of Directors and
will depend on a number of factors, including, but not limited to, our future earnings, capital
requirements, financial condition, future prospects, applicable Delaware law, which provides that
dividends are only payable out of surplus or current net profits and other factors our Board of
Directors might deem relevant.
^ Companies were included in the performance analysis only for the period after their respective
initial public offering.
48
Stock-based Incentive Plan Information
The following table provides certain information as of June 30, 2012, with respect to our equity
compensation plans under which common stock is authorized for issuance:
Equity Compensation Plan Information
as of June 30, 2012
Number of
Securities to be
Issued Upon
Exercise of
Outstanding
Options
Weighted-Average
Exercise Price of
Outstanding Options
Number of Securities
Remaining Available
for Future Issuance
under Equity
Compensation Plans
(Excluding Securities
Reflected in Column
(a))
Equity compensation plans approved by security
holders(1) . . . . . . . . . . . . . . . . . . . . . . . . . . .
2,949,940
$20.41
1,398,018
Includes shares under the 2007 Equity Incentive Award Plan.
(1) The 2007 Equity Incentive Award Plan (the ‘‘2007 Plan’’) adopted in November 2007 and
approved by the stockholders contains an ‘‘evergreen provision’’ that allows for an annual increase,
beginning on July 1, 2008, in the number of shares available for issuance under the 2007 Plan on
July 1 of each year during the ten-year term of the 2007 Plan. The annual increase in the number
of shares shall be equal to the least of:
(cid:127) 4% of our outstanding common stock on the applicable July 1;
(cid:127) 2,745,098 shares; or
(cid:127) a lesser number of shares as determined by our Board of Directors.
Sales of Unregistered Securities
None.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth our selected consolidated statement of operations, balance sheet and
other data as of the dates and for the periods indicated. You should read this data together with
‘‘Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations’’
and our consolidated financial statements and related notes, included elsewhere in this Annual Report.
The selected consolidated statement of operations data for each of the years in the three-year period
ended June 30, 2012, and the selected consolidated balance sheet data as of June 30, 2012 and 2011,
have been derived from our audited consolidated financial statements, which are included elsewhere in
this Annual Report. The selected consolidated statements of operations data for the years ended
June 30, 2009 and 2008, and selected consolidated balance sheet data as of June 30, 2010, 2009 and
2008, have been derived from our audited consolidated financial statements not included in this Annual
Report. The pro forma net income per common share amounts for the year ended June 30, 2008 was
derived by eliminating the one-time tax benefit of $27.0 million from the reversal of the deferred tax
valuation allowance in 2008 and by giving effect to the automatic conversion of all of our outstanding
49
shares of our preferred stock into common stock immediately prior to the completion of our initial
public offering. Our historical results are not necessarily indicative of future operating results.
Consolidated Statement of Operations Data:
Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cost and expenses
Instructional costs and services . . . . . . . . . . . .
Selling, administrative and other operating
Year Ended June 30,
2012
2011
2010
2009
2008
(In thousands)
$708,407
$522,434
$384,470
$315,573
$226,235
$416,999
$307,111
222,029
196,976
131,282
expenses . . . . . . . . . . . . . . . . . . . . . . . . . . .
Product development expenses . . . . . . . . . . . .
236,835
25,593
174,762
16,347
117,398
9,576
86,683
9,575
72,393
9,550
Total costs and expenses . . . . . . . . . . . . . . . . .
679,427
498,220
349,003
293,234
213,225
Income from operations . . . . . . . . . . . . . . . . .
. . . . . . . . . . . . . . . . . . .
Interest expense, net
28,980
(989)
24,214
(1,207)
35,467
(1,331)
22,339
(982)
13,010
(295)
Income before income tax expense and
noncontrolling interest
Income tax (expense) benefit
. . . . . . . . . . . . . . . .
. . . . . . . . . . . . .
27,991
(11,882)
23,007
(11,342)
34,136
(13,249)
21,357
(9,628)
Net income . . . . . . . . . . . . . . . . . . . . . . . . . .
Add net loss attributable to noncontrolling
interest
. . . . . . . . . . . . . . . . . . . . . . . . . . .
Net income . . . . . . . . . . . . . . . . . . . . . . . . . .
Dividends on preferred stock . . . . . . . . . . . . .
Preferred stock accretion . . . . . . . . . . . . . . . .
Net income attributable to common
12,715
21,058
33,773
16,109
11,665
20,887
11,729
1,434
17,543
—
—
1,127
12,792
—
—
638
21,525
—
—
586
—
33,773
12,315
—
(3,066)
— (12,193)
stockholders, including Series A stockholders
$ 17,543
$ 12,792
$ 21,525
$ 12,315
$ 18,514
50
Year Ended June 30,
2012
2011
2010
2009
2008
(In thousands except share and per share data)
$
$
$
$
0.46
0.45
n/a
n/a
$
$
$
$
0.37
0.37
n/a
n/a
$
$
$
$
0.72
0.71
n/a
n/a
$
$
$
$
0.43
0.42
n/a
n/a
$
$
$
$
1.18
1.10
0.27
0.26
35,802,678
35,990,863
n/a
n/a
31,577,758
32,114,761
n/a
n/a
29,791,973
30,248,683
n/a
n/a
28,746,188
29,639,974
n/a
n/a
15,701,278
16,850,909
24,989,323
26,138,954
$
$
$
$
32,991
58,033
10,067
87,013
$
$
$
$
67,213
42,934
9,466
67,148
$
$
$
$
54,680
25,761
5,934
61,228
$
$
$
$
(9,355) $
$
20,835
15,534
12,568
2,790
43,174
$
$
1,464
25,578
Net income attributable to
common stockholders per
share:
Basic . . . . . . . . . . . . . . . . . . . .
Diluted(1) . . . . . . . . . . . . . . . . .
Basic (pro forma)(2) . . . . . . . . .
Diluted (pro forma)(2) . . . . . . .
Weighted average shares used in
computing per share amounts:
Basic . . . . . . . . . . . . . . . . . . . .
Diluted(1) . . . . . . . . . . . . . . . . .
Basic (pro forma)(2) . . . . . . . . .
Diluted (pro forma)(2) . . . . . . .
Other Data:
Net cash provided by (used in)
operating activities . . . . . . . . .
Depreciation and amortization . .
Stock-based compensation
expense . . . . . . . . . . . . . . . . .
EBITDA(3) . . . . . . . . . . . . . . .
Capital Expenditures:
Capitalized curriculum
development costs . . . . . . . . .
$
16,123
$
18,086
$
13,904
$
13,931
$
11,669
Purchases of property,
equipment and capitalized
software development costs . . .
New capital lease obligations . . .
Total capital expenditures . . . . . .
$
$
$
32,477
27,209
75,809
$
$
$
29,563
15,645
63,294
$
$
$
10,357
12,194
36,455
$
$
$
13,939
16,044
43,914
$
$
$
6,476
10,564
28,709
As of June 30,
2012
2011
2010
2009
2008
(In thousands)
Consolidated Balance Sheet Data:
Cash and cash equivalents . . . . . . . . . . . . . . .
Total assets . . . . . . . . . . . . . . . . . . . . . . . . . .
Total short-term debt . . . . . . . . . . . . . . . . . . .
Total long-term obligations . . . . . . . . . . . . . . .
Total K12 Inc. stockholders’ equity . . . . . . . . .
Working capital . . . . . . . . . . . . . . . . . . . . . . .
$144,652
$648,835
$ 17,095
$ 15,901
$473,494
$289,226
$193,099
$582,095
$ 13,357
$ 10,851
$448,621
$264,447
$ 81,751
$307,882
$ 12,247
$
8,365
$221,851
$149,344
$ 49,461
$240,676
$ 11,274
$ 11,128
$182,286
$111,048
$ 71,682
$197,324
6,520
$
$
6,641
$150,288
$ 97,379
(1) Diluted net income per common share reflects pro rata net income allocated to the 2,750,000
non-voting shares of the Series A Special Stock issued in the acquisition of KCDL in July 2010.
These shares are eligible to convert into common stock on a one-for-one basis. If these shares had
been converted, issued and outstanding for the year ended June 30, 2012, they would have
increased our total dilutive shares outstanding by 7.6%.
(2) Pro forma net income per common share eliminates the one-time tax benefit of $27.0 million from
the reversal of the deferred tax asset valuation allowance and gives effect to the automatic
51
conversion of all of our outstanding shares of preferred stock into common stock immediately
prior to the completion of our initial public offering. The pro forma net income per common share
assumes the completion of the initial public offering on June 30, 2007 and the conversion of all of
our outstanding shares of preferred stock into 19,879,675 shares of common stock.
(3) EBITDA consists of net income, plus net interest expense, income tax expense (benefit),
depreciation and amortization and minus noncontrolling interest charges. Interest expense
primarily consists of interest expense for capital leases, long-term and short-term borrowings. We
use EBITDA in addition to income from operations and net income as a measure of operating
performance. However, EBITDA is not a recognized measurement under U.S. generally accepted
accounting principles, or GAAP, and when analyzing our operating performance, investors should
use EBITDA in addition to, and not as an alternative for, net income as determined in accordance
with GAAP. Because not all companies use identical calculations, our presentation of EBITDA
may not be comparable to similarly titled measures of other companies. Furthermore, EBITDA is
not intended to be a measure of free cash flow for our management’s discretionary use, as it does
not consider certain cash requirements such as capital expenditures, tax payments, interest
payments, or other working capital.
We believe EBITDA is useful to an investor in evaluating our operating performance because it is
widely used to measure a company’s operating performance without regard to items such as
depreciation and amortization, which can vary depending upon accounting methods and the book
value of assets, and to present a meaningful measure of corporate performance exclusive of our
capital structure and the method by which assets were acquired. Our management uses EBITDA:
(cid:127) as an additional measurement of operating performance because it assists us in comparing
our performance on a consistent basis;
(cid:127) in presentations to the members of our Board of Directors to enable our Board to have the
same measurement basis of operating performance as is used by management to compare
our current operating results with corresponding prior periods and with the results of other
companies in our industry; and,
(cid:127) on an adjusted basis in determining compliance with the terms of our credit agreement.
The following table provides a reconciliation of net income to EBITDA:
Year Ended June 30,
2012
2011
2010
2009
2008
(In thousands)
Net income . . . . . . . . . . . . . . . .
Interest expense, net . . . . . . . . . .
Income tax expense (benefit) . . . .
Depreciation and amortization . .
Noncontrolling interest . . . . . . . .
$17,543
989
11,882
58,033
(1,434)
$12,792
1,207
11,342
42,934
(1,127)
$21,525
1,331
13,249
25,761
(638)
$12,315
982
9,628
20,835
(586)
$ 33,773
295
(21,058)
12,568
0
EBITDA . . . . . . . . . . . . . . . . . .
$87,013
$67,148
$61,228
$43,174
$ 25,578
52
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This Management’s Discussion and Analysis of Financial Condition and Results of Operations
(‘‘MD&A’’) contains certain forward-looking statements within the meaning of Section 21E of the Securities
Exchange Act of 1934, as amended. Historical results may not indicate future performance. Our forward-
looking statements reflect our current views about future events, are based on assumptions, and are subject
to known and unknown risks and uncertainties that could cause actual results to differ materially from
those contemplated by these statements. Factors that may cause differences between actual results and those
contemplated by forward-looking statements include, but are not limited to, those discussed in ‘‘Risk
Factors’’ in Part I, Item 1A, of this Annual Report. We undertake no obligation to publicly update or revise
any forward-looking statements, including any changes that might result from any facts, events, or
circumstances after the date hereof that may bear upon forward-looking statements. Furthermore, we cannot
guarantee future results, events, levels of activity, performance, or achievements.
This MD&A is intended to assist in understanding and assessing the trends and significant changes in
our results of operations and financial condition. As used in this MD&A, the words, ‘‘we,’’ ‘‘our’’ and ‘‘us’’
refer to K12 Inc. and its consolidated subsidiaries. This MD&A should be read in conjunction with our
consolidated financial statements and related notes included elsewhere in this Annual Report. The following
overview provides a summary of the sections included in our MD&A:
(cid:127) Executive Summary—a general description of our business and key highlights of the fiscal year
ended June 30, 2012.
(cid:127) Key Aspects and Trends of Our Operations—a discussion of items and trends that may impact our
business in the upcoming year.
(cid:127) Critical Accounting Policies and Estimates—a discussion of critical accounting policies requiring
critical judgments and estimates.
(cid:127) Results of Operations—an analysis of our results of operations in our consolidated financial
statements.
(cid:127) Liquidity and Capital Resources—an analysis of cash flows, sources and uses of cash,
commitments and contingencies, seasonality in the results of our operations, the impact of
inflation, and quantitative and qualitative disclosures about market risk.
Executive Summary
We are a technology-based education company. We offer proprietary curriculum, software systems
and educational services designed to facilitate individualized learning for students primarily in
kindergarten through 12th grade, or K-12. Our mission is to maximize a child’s potential by providing
access to an engaging and effective education, regardless of geographic location or socio-economic
background. Since our inception, we have invested more than $305 million to develop and, to a lesser
extent, acquire curriculum and online learning platforms that promote mastery of core concepts and
skills for students of all abilities. K12 provides a continuum of technology-based educational products
and solutions to districts, public schools, private schools, charter schools and families as we strive to
transform the educational experience into one that delivers individualized education on a highly
scalable basis.
We achieved significant revenue growth during fiscal year 2012, reflecting growth in our traditional
online schools, expansion of our Institutional Business and the impact from our recent acquisitions. We
increased revenues to $708.4 million, from $522.4 million, a growth rate of 35.6% from fiscal 2011. Our
fiscal year 2012 results reflect the full year impact of acquisitions completed in our prior fiscal year
while fiscal year 2011 results include revenue and operating activity only after the dates of the
53
acquisitions. In addition, our fiscal year 2012 revenue includes the full year impact from our acquisition
of certain assets of KVE on July 1, 2011, which included contracts to serve nine public virtual charter
schools in the United States and other assets.
In fiscal year 2012, operating income increased to $29.0 million, from $24.2 million in fiscal year
2011, an increase of 19.8%, net income to stockholders increased to $17.5 million, from $12.8 million,
an increase of 36.7% and EBITDA, a non-GAAP measure (see reconciliation of net income to
EBITDA in ‘‘Item 6—Selected Financial Data’’), increased to $87.0 million, from $67.1 million, an
increase of 29.7%. The increase in our operating income resulted from increased revenue from our
organic and acquisition-related growth offset by the expense incurred integrating recently acquired
entities, increased personnel costs from the growth in the number of our employees and operating
expenses associated with our infrastructure investments.
Virtual and blended public schools generally under turn-key management contracts (Managed
Public Schools) accounted for approximately 84% of our revenue in fiscal year 2012. For the 2012-13
school year, we will manage schools in 32 states and the District of Columbia.
We serve an increasing number of schools and school districts enabling them to offer our course
catalog to students either full-time or on an individual course basis. We have a growing sales team to
focus on this sector and, through our acquisitions of KCDL and AEC in 2010, we increased the size
and expertise of our sales team, added a reseller network and expanded our course portfolio. The
services we provide to these schools and school districts are designed to assist them in launching their
own online learning programs which vary according to the needs of the individual school and school
district and may include teacher training programs, administrator support and our PEAK12 management
system. With our services, schools and districts can offer programs that allow students to participate
full-time, as their primary school, or part-time, supplementing their education with core courses,
electives, credit recovery options, remediation and supplemental content options. We continued to
provide these services to school districts or individual schools in all 50 states and the District of
Columbia.
We operate three online private schools where parents can enroll students on a tuition basis for a
full-time online education or individual courses to supplement their children’s traditional instruction.
These include our K12 International Academy, an online private school that enables us to offer students
worldwide the same full-time education programs and curriculum that we provide to the virtual and
blended public schools, The Keystone School, a private school that offers online and correspondence
courses, and the George Washington University Online High School, a program that offers college
preparatory curriculum and is designed for high school students who are seeking a challenging
academic experience. In addition, we own and operate the International School of Berne, a traditional
private school located in Berne, Switzerland and a recognized IB school serving students in grades
Pre-K through 12.
Our History
We were founded in 2000 to utilize advances in technology to provide children with access to a
high-quality public school education regardless of their geographic location or socio-economic
background. Given the geographic flexibility of technology-based education, we believed that the
pursuit of this mission could help address the growing concerns regarding the regionalized disparity in
the quality of public school education, both in the United States and abroad. The convergence of these
concerns and rapid advances in Internet networks created the opportunity to make a significant impact
by deploying high quality online learning systems on a flexible, online platform.
In September 2001, we introduced our kindergarten through 2nd grade offering. We launched our
initial online learning system in virtual public schools in Pennsylvania and Colorado, serving
approximately 900 students in the two states combined. We added new grades over the first seven years
54
and continue to manage schools in more states every year. We have also launched blended public
schools that combine face-to-face time in the classroom with online instruction and opened an online
private school to reach students worldwide. For the 2011-12 school year, we managed public schools in
29 states and through our Institutional Business served schools in all 50 states. For the 2012-13 school
year, we have been approved to manage schools in Iowa, New Jersey and New Mexico, bringing the
total states with Managed Public Schools to 32 in addition to the District of Columbia.
The following table sets forth the new states managed by school year for our virtual and blended
public schools:
Number of
States with
Managed
Public Schools
2
7
10
10
11
13
16
20
24
27
29
32
School Year
SY 2001 - 2002 . . .
SY 2002 - 2003 . . .
SY 2003 - 2004 . . .
SY 2004 - 2005 . . .
SY 2005 - 2006 . . .
SY 2006 - 2007 . . .
SY 2007 - 2008 . . .
SY 2008 - 2009 . . .
SY 2009 - 2010 . . .
SY 2010 - 2011 . . .
SY 2011 - 2012 . . .
SY 2012 - 2013 . . .
* Flex School.
New States with Managed Public Schools
Colorado, Pennsylvania
Arkansas, California, Idaho, Minnesota, Ohio
Arizona, Florida, Wisconsin
None
Texas
Illinois, Washington,
Georgia, Nevada, Utah
Hawaii, Indiana, Oregon, South Carolina
Alaska, Oklahoma, Virginia, Wyoming
Kansas, Massachusetts, Michigan
Louisiana, Tennessee
Iowa, New Jersey*, New Mexico
Recent Acquisitions, Strategic Investments and Equity Private Placement
During the last three years, we completed several strategic transactions to accelerate our growth,
expand our course catalog and service offerings and extend our distribution capabilities. While these
initiatives have expanded our markets and growth opportunities, we have incurred additional costs
associated with acquiring, integrating and operating these acquired businesses. These include the
following.
Formation of Middlebury Interactive Languages LLC
In April 2010, we formed a joint venture with Middlebury College, known as MIL, to develop
online foreign language courses. We contributed substantially all of the assets in our Power-Glide
Language Courses Inc. subsidiary, along with certain intellectual property licenses and cash for a 60%
interest in the joint venture. Middlebury College contributed a license to use its school name, its
Middlebury-Monterey Language Academy business and cash for a 40% interest in the joint venture. As
the majority and controlling owner, we consolidate the results and operations of MIL into our financial
statements. We offer the MIL courses in our virtual and blended public schools and to school districts
and believe they have wide applicability in online learning. MIL creates innovative, online language
programs for pre-college students and leverages Middlebury College’s recognized experience in foreign
language instruction and our expertise in online education. Language faculty from Middlebury
collaborates with MIL to develop and manage the academic content of the Web-based language
courses. MMLA offers foreign language camps through four-week residential and day camps at selected
college campuses.
55
Acquisition of KC Distance Learning, Inc.
In July 2010, we acquired KCDL, a provider of online curriculum and public and private virtual
education. KCDL included three distribution channels: Aventa Learning (online curriculum and
instruction), The Keystone School (an online and correspondence private school) and contracts to serve
iQ Academies (statewide virtual public charter schools). Aventa Learning offers schools and school
districts over 140 core, elective and Advanced Placement (AP) courses in grades 6-12, including credit
recovery courses, full-scale virtual school programs and instructional services.
Formation of Capital Education LLC
In July 2010, we acquired certain assets, including a catalog of over 200 courses and eight issued
patents, of Cardean Learning Group LLC through a subsidiary, Capital Education LLC, a provider of
online services to post-secondary institutions. The programs offered by Capital Education are designed
for colleges and universities seeking to build or expand their online presence, and we have already
executed contracts with three universities. Services include course development and distribution through
a proprietary learning management platform, hosting and technical support, student advisory services
and program administration.
Acquisition of The American Education Corporation
In December 2010, we acquired the stock of AEC. AEC is a leading provider of research-based
core curriculum instructional software for kindergarten through adult learners. The acquisition
increases our portfolio of innovative, high quality instructional courseware and curriculum used by
school districts all over the country.
Investment in Web International Education Group, Ltd.
In January 2011, we invested $10 million to obtain a 20% minority interest in Web International
Education Group, Ltd. (‘‘Web’’). Web is a provider of English language training for learners of all ages
throughout China, including university students, government workers and employees of international
companies and it maintains an extensive network of learning centers throughout China.
Acquisition of International School of Berne
In April, 2011, we acquired the operations of IS Berne, a traditional private school located in
Berne, Switzerland serving students in grades Pre-K through 12. IS Berne is an IB school in its
50th year of operation. Our purchase provided us with the right to operate IS Berne and substantially
all of its assets excluding real estate.
Investment by Technology Crossover Ventures in K12 Inc.
In April 2011, we completed a private placement sale of 4 million shares of restricted common
stock at a price of $31.46 per share to Technology Crossover Ventures (‘‘TCV’’). The gross proceeds of
$125.8 million were unrestricted and available for acquisitions, strategic investments and general
corporate purposes. Under the terms of the transaction, our Board of Directors (‘‘Board’’) appointed a
director nominated by TCV to the Board to hold office until our next annual meeting. Additionally, we
granted TCV the right to participate on a pro-rata basis in any of our subsequent private offerings of
common stock, subject to certain exclusions such as issuances in connection with acquisitions or
employee equity plans. As provided by the terms of the transaction, we filed a resale registration
statement with respect to these shares with the SEC and the registration statement was declared
effective on December 28, 2011.
56
Acquisition of Assets from Kaplan Virtual Education
In July 2011, we completed the purchase of certain K-12 assets and Insight School management
contracts of KVE, a subsidiary of Kaplan, Inc. KVE assets included and contracts to serve online public
schools in eight states serving students in grades 6-12. The acquisition allows us to serve more students
with multiple curriculum platforms and leverage the Insight School brand and our existing virtual
academy operations.
Financial Statement Overview
Since 2010, our business has evolved significantly, and as a result this impacts the comparability of
period to period financial results. These changes include: the acquisition of KCDL in July 2010; the
acquisition of AEC in December 2010; the acquisition of IS Berne in April 2011; and the acquisition of
KVE and Insight Schools (the ‘‘Kaplan/Insight Assets’’) in July 2011. For fiscal year 2012, our financial
results include a full year of operating activities from these acquisitions. For fiscal year 2011, our
financial results include operating activities since the date of the respective acquisitions and 2010 does
not include operating results from any of our acquisitions. These acquisitions accounted for a large
portion of the increases in our revenue, student enrollments and operating costs, including transaction
and integrations costs, amongst periods. In addition, we experienced organic growth from the new state
schools added in recent years identified above and the continued ramp-up in student enrollments and
associated variable operating costs from schools opening over the last five years.
Our fiscal year 2012 results also include operating activities associated with investments to support
our growth and business expansion that were not incurred to the same extent during the prior year
periods. These investments include our internal business support systems, a second data center to
support operations, and expansion of our products and services into new international, academic and
institutional sales markets. Certain business support systems and a second data center were under
development during prior periods and development costs were generally capitalized. We have also
incurred additional maintenance and license costs, depreciation and other operating costs associated
with operating these assets. The operating costs associated with maintaining these systems will continue
in future periods.
Student enrollment in our Managed Public Schools has experienced a shift in the mix of students
with an increased level of high school students. The shift occurred as a result of our acquisition of the
Kaplan/Insight Assets, which only serve students in grades 6-12, and from organic growth in many of
the schools we serve. The continued expansion of our Institutional Business and our International and
Private Pay Business also shifts the mix of our revenue and associated costs of providing services,
including additional sales personnel, third-party distributor costs and third-party royalty costs for our
Institutional Business. We may continue to experience changes in our enrollment, revenue and cost mix
as we continue expansion into markets different than our traditional Managed Public Schools. Our
nascent businesses have not yet reached scale and placed downward pressure on our operating margins
in fiscal year 2012.
Our headcount growth from approximately 1,100 employees at the beginning of 2010 to
approximately 3,300 at the end of our 2012 fiscal year, including teachers associated with our
enrollment growth, the development of the Institutional Business, including the expansion of a sales
force, and the decision to have more K12-employed teachers in our managed schools have also directly
impacted our operating expenses during the last three years. During fiscal year 2012, we also incurred
additional legal costs defending litigation and increased costs associated with the ERP implementation.
We believe that all the above factors, particularly the significant infrastructure investments, acquisitions
and the depreciation and amortization associated with our acquired assets and infrastructure
investments, reduce the comparability of our operating results between periods.
57
Funding Overview
State education budgets remain under pressure due to the continuing slow pace of economic
recovery. Public school funding levels, including funding for our Managed Public Schools, have been
reduced in several states over the past few years, including even abrupt mid-year cuts in certain states,
which in some cases were retroactively applied to the start of the school year as a result of formulaic
adjustments. We routinely monitor state legislative activity and regulatory proceedings that might
impact the funding received by the schools we serve and, to the extent possible, factor potential
outcomes into our business planning decisions. Accordingly, we recognized a reduction in revenue of
about 2% during fiscal year 2012 related to various state funding issues. In addition, because of current
economic pressures, some states are delaying their payments to public schools. We experienced delays
in receiving payments during the fourth quarter of fiscal year 2012 from our Managed Public Schools
that depend on receiving state funding before remitting payment to us. As a result of these deferred
payments, we have experienced higher accounts receivable throughout the third and fourth quarters of
fiscal year 2012, which negatively affected our cash position and cash provided from operations as
compared to our normal seasonal pattern of collections. We currently expect to receive payment from
certain states that deferred payment in fiscal 2012 during our first quarter of fiscal year 2013.
Key Aspects and Trends of Our Operations
Revenues—Overview
We generate a significant portion of our revenues from the sale of curriculum, management and
technology services to managed virtual and blended public schools, where we provide turn-key
management services. More than 84% of our revenues were derived from this source in fiscal year
2012. We anticipate that these revenues will continue to represent the majority of our total revenues
over the next 12-24 months; however we expect revenues in other aspects of our business to increase as
a percentage of revenue of our total revenues as we execute on our growth strategy. We provide
products and services primarily to three lines of business: Managed Public Schools, Institutional
Business and International and Private Pay Business.
Factors affecting our revenues include:
(i) the number of enrollments;
(ii) the mix of enrollments across grades and states;
(iii) management services provided to the schools and school districts;
(iv) state or district per student funding levels and attendance requirements;
(v) prices for our products and services;
(vi) growth in our other customer types; and
(vii) revenues from new initiatives, mergers and acquisitions.
State education budgets remain under pressure due to the continuing slow pace of economic
recovery. Public school funding levels, including funding for our Managed Public Schools, have been
reduced in several states over the past few years, including even abrupt mid-year cuts in certain states,
which in some cases were retroactively applied to the start of the school year as a result of formulaic
adjustments. While the American Recovery and Reinvestment Act of 2009 and Education Jobs and
Medicaid Assistance Act of 2010 provided temporary stimulus funds to states, they did not fully offset
the state funding reductions and have generally expired. Our financial results reflect the state funding
reductions, federal funds provided and the reduction of federal funds provided, and expense reductions
that we undertook to take in order to mitigate the impact of these budget constraints. Net reductions
in school funding have negatively affected both revenue and operating results for our last four fiscal
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years. Many states continue to experience budget issues, including the state of California, where we
have 12 virtual and blended public schools in operation. The specific level of federal, state and district
funding for the coming years is not yet known, and taken as a whole, it is reasonable to believe that a
number of the public schools we serve, including those served by our Institutional Business group, may
experience lower funding in the future.
Our growth strategy includes increasing revenues in other distribution channels, including
accelerating Institutional Business sales, adding enrollments in our private schools and pursuing
international opportunities to offer our learning systems. While the combined revenues from these
other sectors were significantly smaller than that from the Managed Public Schools in fiscal year 2012,
these revenues are growing at a faster rate. Our success in executing our strategies will impact future
growth.
Public Funding and Regulation. Our public school customers are financed with state and local
government and, to a lesser extent, federal funding. Budget appropriations for education at all levels of
government are determined through a political process and impacted by general economic conditions,
and, as a result, our revenues may be affected by changes in appropriations. Decreases in funding could
result in an adverse effect on our financial condition, results of operations and cash flows.
Competition. Providing online education, including the provision of services to school districts
through our Institutional Business channel, is becoming increasingly competitive. As this competition
intensifies, it could negatively affect our growth, revenues and operating margins. With the introduction
of new technologies and entrants, we expect this competition to intensify. We are also experiencing
significant price competition in our Institutional Business sector. This price competition may have a
significant impact on both the retention of our existing customers and the acquisition of new
Institutional Business customers.
Managed Public Schools
We define an enrollment as a student using our curriculum. Generally, students will take four to
six courses, except for some kindergarten students who may participate in half-day programs. We count
each half-day kindergarten student as an enrollment. School sessions generally begin in August or
September and end in May or June. To ensure that all schools are reflected in our measure of
enrollments, we consider the number of students on the last day of September to be our opening
enrollment level, and the number of students enrolled on the last day of May to be our ending
enrollment level. For each period, average enrollments represent the average of the month-end
enrollment levels for each school month in the period. We continually evaluate our enrollment levels by
state, by school and by grade. We track new student enrollments and withdrawals throughout the year.
We believe that our revenue growth depends upon the following:
(cid:127) the number of states and school districts in which we operate;
(cid:127) the mix of students served;
(cid:127) the restrictive terms of local laws or regulations, including enrollment caps;
(cid:127) the appeal of our curriculum and instructional model to students and families;
(cid:127) the specific school or school district requirements including credit recovery, Advanced Placement
(AP), or special needs;
(cid:127) the effectiveness of our program in delivering favorable academic outcomes;
(cid:127) the quality of the teachers working in the schools we serve; and
(cid:127) the effectiveness of our marketing and recruiting programs.
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In fiscal year 2012, we increased total average enrollments by 29,364, or 41.2%, to 100,686, as
compared to total average enrollments of 71,322 or 41.12%, in fiscal year 2011. We continually evaluate
our trends in revenues by monitoring the number of enrollments in total, by state, by school and by
grade, assessing the impact of changes in school funding levels and the pricing of our curriculum and
educational services. The growth rate of our managed school average enrollments exceeded the growth
in revenue principally due to mix shift to High School, the acquisition of the Insight Schools, reductions
in the per-pupil rate of achieved state funding in some states, and lower utilization in federal and state
restricted funding per managed student.
Enrollments in these schools on average generate substantially more revenues than enrollments
served through our Institutional Business where we provide limited or no management services.
Similarly, revenues earned per pupil across our private school programs vary. As we continue to build
our Institutional Business and increase enrollment in International and Private Pay Business,
enrollment mix is expected to shift and may impact growth in revenues relative to the growth in
enrollments.
In fiscal year 2012, we derived approximately 13% and 12% of our revenues, respectively, from the
Agora Cyber Charter School (‘‘Agora’’) in Pennsylvania and the Ohio Virtual Academy. In aggregate,
these schools accounted for approximately 25% of our total revenues. We provide our full turn-key
management solution pursuant to our contract with the Ohio Virtual Academy, which terminates on
June 30, 2017. We provide our full turn-key solution to the Agora pursuant to a contract with the
school that expires on June 30, 2015. The annual revenues generated under each of these contracts
represent a material portion of our total revenues in fiscal year 2012, however, as our other business
sectors grow, these proportions may decrease.
Institutional Business
While Managed Public Schools constitute the bulk of our business, there is a significant emerging
demand by school districts, individual schools and other educational institutions for more limited
components of our online services and products than are used in Managed Public Schools. Sales to
those entities are conducted through our Institutional Business organizations.
The Institutional Business portfolio contains an array of curriculum, technology solutions and
delivery models with the flexibility to be mapped to specific student, school and district needs. These
options range from full online district programs to individual course offerings. The Institutional
Business course catalog is comprehensive and enables districts to offer their students educational
opportunities that otherwise might not be financially justifiable, such as Advanced Placement (AP),
honors, world languages, remediation, credit recovery, alternative education, career and technology
electives and college readiness. We also provide state-certified and subject matter expert instructors,
professional development and other support services as desired by our customers.
Given the variables discussed in further detail below, we believe that the best performance metric
for the Institutional Business is revenues. Historically, for purposes of comparability to the Managed
Public Schools, we reported growth in the Institutional Business on the basis of full-time equivalents
(‘‘FTEs’’) using a four course conversion factor. However, we no longer believe that FTEs are as useful
to understanding the Institutional Business as when the metric was originally introduced. With the
integration into the Institutional Business of the educational software services and products of The
American Education Corporation, and the Aventa curriculum acquired in the KCDL acquisition, as
well as the evolution of our district and school programs, many of the customers served by the
Institutional Business organizations now purchase curriculum in a variety of ways, making consistent
comparisons on the basis of enrollments less relevant. For example, we serve not only full-time
students, but also students taking semester-long courses, students who recover credits through
concentrated four to eighteen-week programs, students who are using our curricula as a supplemental
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enhancement to their traditional textbook, and teachers who may present our lessons on an interactive
whiteboard as either the core of their instruction or as an engaging supplement to their lecture. Given
all these variables, it is therefore difficult to identify a single metric (such as an FTE), or combination
of metrics (such as course enrollments or programs sold), that can accurately capture the entirety of
the Institutional Business. Indeed, our efforts to do so led us to the conclusion that at this time,
revenue is the best performance metric for the Institutional Business.
Sales opportunities in the Institutional Business are driven by a number of factors in a diverse
customer population, and which determine the deliverable and price. These factors include:
(cid:127) Type of Customer—A customer can be a U.S.-based public, private or charter school, a district,
regional education agency, or a commercial company that provides services to students.
(cid:127) Curriculum Needs—We sell our curriculum solutions based on the scope of the customer need,
and a solution is generally purchased as end-user access to a complete catalog, individual course
or supplemental content title.
(cid:127) License Options—Depending on the scope of the solution, a license can be purchased for
individual course enrollments, annual seat, school or district-wide site licenses or a perpetual
license. We charge incrementally if we are hosting the solution.
(cid:127) Hosting—Customers may host curricula themselves or license our hosted solution. We are able to
track all students for customers who use our hosted solution. However, more often in large-
scale, district-wide implementations, a customer may choose to host the curriculum, and in that
case we have no visibility of individual student usage for counting enrollments.
(cid:127) Service Menu—Instructional services may be provided and priced per-enrollment or bundled in
the overall price of the solution. Additional services, including professional development, title
maintenance and support may also be provided and are priced based on the scope of services.
International and Private Pay Business
Private schools are managed schools where tuition is paid directly by the family of the student. We
receive no public funds for students in our private schools. We operate three private online schools at
differing price points and service levels. Our revenue is derived from tuition receipts that are a function
of course enrollments and program price. In some circumstances, a third-party school may elect to
enroll one of its students in a K12 private school course as a supplement to the student’s regular
on-campus instruction. In such cases, the third-party school may pay the K12 private school tuition.
Our private schools business has evolved over the past two years as we have acquired and
developed new private school offerings with different structures and price points. This has made
comparability to our Managed Public Schools business more challenging and the use of full-time
equivalent metrics no longer as meaningful. As a result, we have decided to report performance in the
private pay business on the basis of the student counts and semester-course enrollments which more
accurately reflects the way revenues and expenses occur in the business.
Student counts tell us how many individual students are being served at any point in time. As a
result of the variation in the number of courses taken by students, we measure the total size of our
schools by ‘‘semester-course enrollments’’ (‘‘SCEs’’). A semester long course is counted as a single
SCE, and a year-long course is counted as two SCEs. Private school students take courses ranging from
a single, semester long K-8 course to a 12 high school course annual load. For example, a student who
takes six courses per semester for two semester accounts for 12 SCEs.
Some of our private school operations, notably Keystone and the K12 International Academy, start
classes on a monthly or rolling basis. As a result, there are students in our system of education at any
point in time who have just started a course, just finished a course or have partially completed a
course.
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We believe our revenue growth depends primarily on the recruitment of students into our
programs through effective marketing and word-of mouth referral based on the quality of our service.
In addition, through high service quality, we seek to retain existing students and increase the total
number of courses each student takes with us. In some cases, students return each summer and take
only one course. In other cases, students choose a K12 private school as their principal form of
education and may stay for many years. The flexibility of our programs, the quality of our curriculum
and teaching, and the student community features lead to customer satisfaction and therefore,
retention.
We have entered into agreements which enable us to distribute our products and services to over
1,000 school partners throughout the world that use our courses as a supplement to their on-campus
academic programs. These courses provide students with additional electives, advanced placement (AP)
courses, and sometimes include dual-degree programs that the school cannot offer on its own. Student
enrollments derived from partner school programs are included in the count of SCEs for these private
schools.
We sometimes offer additional teacher assistance, counseling, clubs and other additive services to
our basic course offerings. These additive services may carry additional fees that appear in our revenue.
We also have an operating agreement with IS Berne, a traditional private school in Switzerland.
Enrollments and revenue from IS Berne are included in our private school totals along with the
numbers from our online school operations. We do not include students in our consumer sales business
as we do not monitor the progress of these students in the same way as we do in our other programs.
Instructional Costs and Services Expenses
Instructional costs and services expenses include expenses directly attributable to the educational
products and services we provide. The Managed Public Schools we manage are the primary drivers of
these costs, including teacher and administrator salaries and benefits and expenses of related support
services. We also employ teachers and administrators for instruction and oversight in our Institutional
Business and International and Private Business sectors. Instructional costs also include fulfillment costs
of student textbooks and materials, depreciation and reclamation costs of computers provided for
student use, the cost of any third-party online courses and the amortization of capitalized curriculum
and related systems. Our instructional costs are variable and are based directly on our number of
schools and enrollments.
In the near term, we expect high school enrollments to continue to grow as a percentage of total
enrollments. Our high school offering requires increased instructional costs as a percentage of revenue
compared to our kindergarten to 8th grade offering. This is due to the following: (i) generally lower
student-to-teacher ratios; (ii) higher compensation costs for some teaching positions requiring subject-
matter expertise; (iii) ancillary costs for required student support services, including college placement,
SAT preparation and guidance counseling; (iv) use of third-party courses to augment our proprietary
curriculum; and (v) use of a third-party learning management system to service high school students.
Over time, we may partially offset these factors by obtaining productivity gains in our high school
instructional model, replacing third-party high school courses with proprietary content, possibly
replacing our third-party learning management system with a proprietary system, leveraging our school
infrastructure and obtaining purchasing economies of scale.
We have deployed and are continuing to develop new delivery models, including blended schools,
where students receive face-to-face instruction in a learning center to complement their online
instruction, and other programs that utilize brick and mortar facilities. The maintenance, management
and operations of these facilities necessitate additional costs, which are generally not required to
operate typical virtual public schools. We are pursuing expansion into new states for both virtual public
and other specialized charter schools. If we are successful, we will incur start-up costs and other
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expenses associated with the initial launch of a school, including the funding of building leases and
leasehold improvements.
Selling, Administrative and Other Operating Expenses
Selling, administrative and other operating expenses include the salaries and benefits employees
engaged in business development, public affairs, sales and marketing, and administrative functions and
transaction and due diligence expenses related to mergers and acquisitions.
Product Development Expenses
Product development expenses include research and development costs and overhead costs
associated with the management of both our curriculum development and internal systems development
teams. In addition, product development expenses include the amortization of internal systems and any
related impairment charges. We measure and track our product development expenditures on a per
course or project basis to measure and assess our development efficiency. In addition, we monitor
employee utilization rates to evaluate our workforce efficiency. In fiscal year 2012, Product
Development expenses increased because of the number and types of products we maintain, and due to
timing and other factors, capitalized costs were less than in fiscal year 2011. We plan to continue to
invest in additional curriculum development and related software in the future, primarily to produce
additional high school courses, world language courses and new releases of existing courses and to
continue to upgrade our content management system and online schools. We capitalize selected costs
incurred to develop our curriculum, beginning with application development, through production and
testing into capitalized curriculum development costs. We capitalize certain costs incurred to develop
internal systems into capitalized software development costs.
Expense Management
We are constantly searching for ways to deliver more value at a lower cost for our customers and
we take pride in our ability to deliver highly-individualized, effective education solutions at a significant
savings to taxpayers. Over the past several years, the recession has negatively impacted state education
funding to many of the schools we serve, which we have sought to mitigate by increasing efficiencies
whenever possible without affecting educational quality. Given the large number of teachers we employ
or manage, our ability to reduce costs in our business model is partially limited. Our increasing scale
and infrastructure investments, however, position us for greater efficiency in future periods.
Critical Accounting Policies and Estimates
The discussion of our financial condition and results of operations is based upon our consolidated
financial statements, which have been prepared in accordance with U.S. GAAP. In the preparation of
our consolidated financial statements, we are required to make estimates and assumptions that affect
the reported amounts of assets, liabilities, revenues and expenses, as well as the related disclosures of
contingent assets and liabilities. We base our estimates on historical experience and on various other
assumptions that we believe to be reasonable under the circumstances. The results of our analysis form
the basis for making assumptions about the carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from these estimates under different
assumptions or conditions, and the impact of such differences may be material to our consolidated
financial statements. Our critical accounting policies have been discussed with the audit committee of
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our Board of Directors. We believe that the following critical accounting policies affect the more
significant judgments and estimates used in the preparation of our consolidated financial statements:
Revenue Recognition
In accordance with Accounting Standards Codification (‘‘ASC’’) 605, Revenue Recognition, we
recognize revenue when the following conditions are met: (1) persuasive evidence of an arrangement
exists; (2) delivery of physical goods or rendering of services is complete; (3) the seller’s price to the
buyer is fixed or determinable; and (4) collection is reasonably assured.
We have determined that the separate elements of our multiple element contracts with managed
schools do not have standalone value. Accordingly, we account for revenues received under multiple
element arrangements as a single unit of accounting and recognize the entire arrangement over the
term of the contractual service period. While we have concluded that the elements of our contracts do
not have standalone value, we invoice schools in accordance with the established contractual terms and
rates. Generally, this means that for each enrolled student, we invoice their school on a per student
basis for the following items: (1) access to our online school and online curriculum; (2) learning kits;
and (3) student computers. We also invoice for management and technology services. We apply
ASC 605 to each of these items as follows:
(cid:127) Access to the Online School and Online Curriculum. Our proprietary learning management
system (OLS) revenues are generally earned on a per course basis from schools and school
districts. Students enrolled through a school are provided access to the OLS and online
curriculum. Revenues are earned ratably over the school year, typically 10 months, or over the
semester depending on the length of the course.
(cid:127) Learning Kits. The lessons in our online school are often accompanied with selected printed
materials, workbooks, laboratory materials and other manipulative items which we provide to
students. We generally ship all learning kits to a student when their enrollment is approved.
Once materials have been shipped, our efforts are substantially complete. Therefore, we
recognize revenues upon shipment. Shipments to schools that occur in the fourth fiscal quarter
that are for the following school year are recorded in deferred revenues. We also earn
reclamation fee income when we reclaim materials for schools at the end of the school year or
when a student withdraws from the school.
(cid:127) Student Computers. We provide many enrolled students with the use of a personal computer and
complete technical support through our call center. Revenues are generally earned ratably over
the school year and we also earn revenues for reclamation services when a student withdraws
from a school and returns the computer which may occur in a subsequent school year.
(cid:127) Management, Technology and Educational Services. Under most of our statewide virtual public
and blended school contracts, we provide the boards of managed schools with turn-key
management and technology services. We recognize these revenues ratably over our fiscal year as
administrative offices of the school remain open for the entire year. Our management and
technology service fees are generally a contracted percentage of yearly school funding. We
review our estimates of funding periodically, and revise as necessary, amortizing any adjustments
to earned revenues over the remaining portion of the fiscal year. Actual school funding may vary
from these estimates, and the impact of these differences could have a material impact on our
results of operations. Since the end of the school year coincides with the end of our fiscal year,
we are generally able to base our annual revenues on actual school funding.
We closely monitor the financial performance of the schools to which we provide turn-key
management services. Under the contracts with these schools, we generally take responsibility for any
operating expenses that they may incur in a given school year, which include our charges for products
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and services. In some cases, the school operating expenses may exceed the revenues earned by the
school resulting in an operating loss for the school. A school operating loss may result from a
combination of cost increases or funding reductions attributable to the following:
(cid:127) costs associated with new schools including the initial hiring of teachers, administrators and the
establishment of school infrastructure;
(cid:127) school requirements to establish contingency reserves;
(cid:127) one-time costs, such as a legal claim;
(cid:127) funding reductions due to the inability to qualify specific students for funding;
(cid:127) regulatory or academic performance thresholds which may restrict the ability of a school to fund
all expenses;
(cid:127) inadequate school funding in particular states;
(cid:127) providing services without receiving state funding when enrollments occur after enrollment count
dates; and/or
(cid:127) burdensome regulation creating excessive costs.
We generate a small percentage of our revenues from the sale of perpetual licenses of curriculum
and ongoing support to schools. Under ASC 605, we account for the license and support of separate
units of accounting and recognize revenues associated with the license up front and ongoing
maintenance and support over the performance period. We also generate a small percentage of our
revenues through the sale of our online courses and learning kits directly to consumers. We record
revenue for consumer services over the term of the class subscription.
Capitalized Curriculum Development Costs
Our curriculum is primarily developed by our employees and, to a lesser extent, by independent
contractors. Generally, our courses cover traditional subjects and utilize examples and references
designed to remain relevant for long periods of time. The online nature of our curriculum allows us to
incorporate user feedback rapidly and make ongoing corrections and improvements. For these reasons,
we believe that our courses, once developed, have an extended useful life, similar to computer software.
We also create textbooks and other offline materials. Our curriculum is integral to our learning
systems. Our customers generally do not acquire our curriculum or future rights to it.
Due to the similarity in development stages and long economic life of curriculum to computer
software, we capitalize curriculum development costs incurred during the application development stage
in accordance with ASC 350, Intangibles. ASC 350 provides guidance for the treatment of costs
associated with computer software development and defines those costs to be capitalized and those to
be expensed. Costs that qualify for capitalization are external direct costs, payroll and payroll-related
costs. Costs related to general and administrative functions are not capitalizable and are expensed as
incurred. We capitalize curriculum development costs during the design, development and deployment
phases of the project. Many of our new courses leverage off of proven delivery platforms and are
primarily content, which has no technological hurdles. As a result, a significant portion of our
courseware development costs qualify for capitalization due to the concentration of our development
efforts on the content of the courseware. Technological feasibility is established when we have
completed all planning, designing, coding and testing activities necessary to establish that a course can
be produced to meet its design specifications. Capitalization ends when a course is available for general
release to our customers, at which time amortization of the capitalized costs begins. Capitalized costs
are recorded in capitalized curriculum development costs. The period of time over which these
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development costs will be amortized is generally five years. This is consistent with the capitalization
period used by others in our industry and corresponds with our product development lifecycle.
Software Developed or Obtained for Internal Use
We develop our own proprietary computer software programs to provide specific functionality to
support both our unique education offerings and the student and school management services. These
programs enable us to develop courses, process student enrollments, meet state documentation
requirements, track student academic progress, deliver online courses to students, coordinate and track
the delivery of course-specific materials to students and provide teacher support and training. These
applications are integral to our learning systems and we continue to enhance existing applications and
create new applications. Our customers do not acquire our software or future rights to it.
We capitalize software development costs incurred during development in accordance with
ASC 350, Intangibles. These capitalized development costs are included in capitalized software
development costs and are generally amortized over three years.
Impairment of Long-lived Assets
Long-lived assets include property, equipment, capitalized curriculum and software developed or
obtained for internal use. In accordance with ASC 360, Property, Plant and Equipment, we review our
recorded long-lived assets for impairment annually or whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be fully recoverable. We determine the extent to
which an asset may be impaired based upon our expectation of the asset’s future usability as well as on
a reasonable assurance that the future cash flows associated with the asset will be in excess of its
carrying amount. If the total of the expected undiscounted future cash flows is less than the carrying
amount of the asset, a loss is recognized for the difference between fair value and the carrying value of
the asset. There were no impairment charges for the fiscal years ended June 30, 2012, 2011 and 2010.
Income Taxes
We account for income taxes in accordance with ASC 740, Income Taxes. ASC 740 prescribes the
use of the asset and liability method to compute the differences between the tax bases of assets and
liabilities and the related financial amounts, using currently enacted tax laws. If necessary, a valuation
allowance is established, based on the weight of available evidence, to reduce deferred tax assets to the
amount that is more likely than not to be realized. Realization of the deferred tax assets, net of
deferred tax liabilities, is principally dependent upon achievement of sufficient future taxable income.
We exercise significant judgment in determining our provisions for income taxes, our deferred tax assets
and liabilities and our future taxable income for purposes of assessing our ability to utilize any future
tax benefit from our deferred tax assets.
Although we believe that our tax estimates are reasonable, the ultimate tax determination involves
significant judgments that could become subject to examination by tax authorities in the ordinary
course of business. We periodically assess the likelihood of adverse outcomes resulting from these
examinations to determine the impact on our deferred taxes and income tax liabilities and the adequacy
of our provision for income taxes. Changes in income tax legislation, statutory income tax rates or
future taxable income levels, among other things, could materially impact our valuation of income tax
assets and liabilities and could cause our income tax provision to vary significantly among financial
reporting periods.
We expect substantially all of our deferred tax assets to be fully utilized and have established a
valuation allowance on net deferred tax assets of $1.1 million as of June 30, 2012 to the amount that is
more likely than not to be realized. Due to our federal net operating loss carryforwards, we do not
expect to pay federal income taxes in the next twelve months, other than the alternative minimum tax.
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We currently expect the majority of our net operating loss carryforwards to be utilized during our 2013
fiscal year and to begin making more significant federal income tax payments during our 2014 fiscal
year.
Accounting for Stock-based Compensation
We recognize stock-based compensation expense under the provisions of ASC 718, Compensation—
Stock Compensation. We use the Black-Scholes option pricing model to calculate the fair value of stock
options at their respective grant date. The use of option valuation models requires the input of highly
subjective assumptions, including the expected stock price volatility and the expected term of the option.
The fair value of restricted stock awards is the fair market value on the date of grant. We recognize these
compensation costs on a straight-line basis over the requisite service period, which is generally the vesting
period of the award. During 2010 to 2012, we granted more restricted stock awards, resulting in increased
stock-based compensation that will be recognized over the required service periods. In addition, the
vesting period is generally three years for restricted stock compared to four years for stock options. The
increase in restricted stock awards and the shorter vesting period has increased our stock-based
compensation costs, and this increased cost is expected to continue in future periods.
Goodwill and Other Intangibles
We record as goodwill the excess of purchase price over the fair value of the identifiable net assets
acquired. Finite-lived intangible assets acquired in business combinations subject to amortization are
recorded at their fair value. Finite-lived intangible assets include the trade names, customer contracts
and curriculum and such intangible assets are amortized on a straight-line basis over their estimated
useful lives based on third party valuations. We periodically evaluate the remaining useful lives of
intangible assets and adjust our amortization period if it is determined that such intangible assets have
a shorter useful life. Our goodwill and other intangibles, and amortization of other intangible assets,
have increased over the last two years with our recent acquisitions. We evaluate the recoverability of
our recorded goodwill and other intangible assets annually, or whenever a triggering event of
impairment may occur. For the fiscal years ended June 30, 2012, 2011 and 2010, no impairment to
goodwill or indefinite-lived intangible assets was recorded.
Consolidation of Noncontrolling Interest
Our consolidated financial statements reflect the results of operations of our Middle East and
Middlebury Interactive Languages joint ventures. Earnings or losses attributable to our partner are
classified as ‘‘net loss attributable to noncontrolling interest’’ in the accompanying consolidated
statements of operations. Net income or net loss attributable to noncontrolling interest adjusts our
consolidated net results of operations to reflect only our share of the after-tax earnings or losses of an
affiliated company.
Redeemable Noncontrolling Interest
In the formation of our joint venture with Middlebury College, at any time after the fifth (5th)
anniversary of the agreement (May 2015), Middlebury may give written notice of its irrevocable election
to sell all (but not less than all) of its membership interest (put right) to us. The purchase price for
Middlebury’s membership interest shall be its fair market value and we may, in our sole discretion, pay
the purchase price in cash or shares of our common stock. The agreement also includes a provision
whereby, if certain milestones are not met related to expanding the business by June 2014, Middlebury
will have the option to repurchase certain contributed assets at their fair market value.
Given the provision of the put right, the redeemable noncontrolling interest is redeemable outside
of our control and it is recorded outside of permanent equity at its redemption value, which
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approximates fair value, in accordance with ASC 480, Distinguishing Liabilities from Equity. We adjust
the redeemable noncontrolling interest to redemption value on each balance sheet date with changes in
redemption value recognized as an adjustment to retained earnings, or in the absence of retained
earnings, by adjustment to additional paid-in-capital. The redeemable value as of the end of each fiscal
year is based on a third-party valuation, while the redeemable value during interim periods is based on
management updates from the date of the most recent independent valuation. As of June 30, 2012, the
estimated redeemable noncontrolling interest was $17.2 million.
Investment in Web International Education Group, Ltd.
We have recorded our minority investment in Web as an available for sale debt security because of
our ability to put the investment to other Web shareholders in return for the original $10 million
purchase price plus interest. Accordingly, the operating results of Web were not reflected in our
consolidated statements of operations. During the fiscal year ended June 30, 2012, there was no change
to the fair value of our Web investment from our initial investment costs based on Web’s financial
performance, management’s assessment of fair value and Web’s cash balance that was deemed
sufficient to repay the initial investment plus interest.
Segment Reporting
We operate in one operating and reportable business segment: we are a technology based
education company. We offer proprietary curriculum, software systems and educational services
designed to facilitate individualized learning for students primarily in kindergarten through 12th grade,
or K-12. We have the following three lines of business: Managed Public Schools, Institutional Business
and International and Private Pay Business. Our Chief Executive Officer is the Chief Operating
Decision Maker (the ‘‘CODM’’). Our CODM manages our business primarily by function and reviews
financial information on a consolidated basis, accompanied by disaggregated information on revenues
by line of business as well as certain operational data, for purposes of allocating resources and
evaluating financial performance. The profitability of our business segments is not produced. The
CODM only evaluates profitability based on consolidated results.
Results of Operations
Managed Public Schools
The following table sets forth total average enrollment data for students in Managed Public
Schools. These figures exclude enrollments from our classroom pilot programs.
Average Student Enrollments . . . . .
100,686
71,322
56,962
29,364
41.2% 14,360
25.2%
Years Ended June 30,
Growth 2012 / 2011
Growth 2011 / 2010
2012
2011
2010
Change
Change %
Change
Change %
International and Private Pay Business
The following table sets forth total data for students in our International and Private Pay Business.
These figures exclude enrollments from our consumer program.
Student Enrollments . . . . . . . . . . . .
Semester Course Enrollments . . . . .
29,995
82,999
27,009
67,381
1,538
10,547
2,986
15,618
11.1% 25,471
23.2% 56,834
1,656.1%
538.9%
Years Ended June 30,
Growth 2012 / 2011
Growth 2011 / 2010
2012
2011
2010
Change
Change %
Change
Change %
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Revenue by Business Lines
Revenue is captured by business line based on the underlying customer contractual agreement.
Periodically, a customer may change business line classification. For example, a district who purchases a
single course (Institutional Business customer) may decide to implement a full-time virtual school
program (Managed Public School customer). Changes in business line classification occur at the time
the contractual agreement is modified. The following represents our revenue for our three lines of
business for each of the last three fiscal years.
(Dollars in thousands)
Managed Public Schools .
Institutional Business . . .
International and Private
Pay Business . . . . . . . .
Total . . . . . . . . . . . . . . .
Years Ended June 30,
Growth 2012 / 2011
Growth 2011 / 2010
2012
2011
2010
Change
Change %
Change
Change %
$596,142
$ 73,150
$454,001
$ 46,756
$362,766
$ 12,665
$142,141
$ 26,394
31.3% $ 91,235
56.5% $ 34,091
25.1%
269.2%
$ 39,115
$708,407
$ 21,677
$522,434
9,039
$
$384,470
$ 17,438
$185,973
80.4% $ 12,638
35.6% $137,964
139.8%
35.9%
The following table sets forth statements of operations data for each of the periods indicated:
Year Ended June 30,
2012
2011
2010
Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$708,407
(In thousands)
$522,434
$384,470
Cost and expenses
Instructional costs and services . . . . . . . . . . . . . . .
Selling, administrative and other operating expenses
Product development expenses . . . . . . . . . . . . . . .
416,999
236,835
25,593
307,111
174,762
16,347
222,029
117,398
9,576
Total costs and expenses . . . . . . . . . . . . . . . . . . . .
679,427
498,220
349,003
Income from operations . . . . . . . . . . . . . . . . . . . .
Interest expense, net . . . . . . . . . . . . . . . . . . . . . . .
28,980
(989)
24,214
(1,207)
35,467
(1,331)
Income before income tax expense and
noncontrolling interest . . . . . . . . . . . . . . . . . . . .
Income tax expense . . . . . . . . . . . . . . . . . . . . . . .
27,991
(11,882)
23,007
(11,342)
34,136
(13,249)
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Add net loss attributable to noncontrolling interest .
16,109
1,434
11,665
1,127
20,887
638
Net Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 17,543
$ 12,792
$ 21,525
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The following table presents our selected consolidated statement of operations data expressed as a
percentage of our total revenues for the periods indicated:
Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cost and expenses
Instructional costs and services . . . . . . . . . . . . . . . . . . . . .
Selling, administrative and other operating expenses . . . . . .
Product development expenses . . . . . . . . . . . . . . . . . . . . . .
Year Ended June 30,
2012
2011
2010
100.0% 100.0% 100.0%
58.9% 58.8% 57.7%
33.4% 33.5% 30.6%
3.6% 3.1% 2.5%
Total costs and expenses . . . . . . . . . . . . . . . . . . . . . . . . . .
95.9% 95.4% 90.8%
Income from operations . . . . . . . . . . . . . . . . . . . . . . . . . .
4.1% 4.6% 9.2%
Interest expense, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (cid:3)0.1% (cid:3)0.2% (cid:3)0.3%
Income before income tax expense and noncontrolling
interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
4.0% 4.4% 8.9%
Income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (cid:3)1.7% (cid:3)2.2% (cid:3)3.5%
2.3% 2.2% 5.4%
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
0.2% 0.2% 0.2%
Add net loss attributable to noncontrolling interest . . . . . . .
Net Income—K12 Inc.
. . . . . . . . . . . . . . . . . . . . . . . . . . .
2.5% 2.4% 5.6%
Comparison of Years Ended June 30, 2012 and 2011
Revenues. Our revenues for the year ended June 30, 2012 were $708.4 million, representing an
increase of $186.0 million, or 35.6%, as compared to $522.4 million for the year ended June 30, 2011.
Our revenue growth was primarily attributable to (i) an increase of $142.1 million in Managed Public
Schools revenue, as a result of organic growth of $116.7 million and acquired growth of $25.4 million;
(ii) an increase of $26.4 million in Institutional Business revenue, partially as a result of the full year
effect of acquired businesses, such as AEC; and (iii) a $17.4 million increase in International and
Private Pay revenue, partially as a result of the full year effect of the IS Berne acquisition. Revenue for
the Managed Public Schools grew 31.3% year-over-year, while total average enrollment growth for
Managed Public Schools students grew by 41.2%. Revenue grew at a lower rate principally as a result
of our acquisition of the Kaplan/Insight Assets, specific reductions in the per-pupil rate of achieved
state funding, and lower utilization in federal and state restricted funding per managed student
Instructional Costs and Services Expenses.
Instructional costs and services expenses for the year
ended June 30, 2012 were $417.0 million, representing an increase of $109.9 million, or 35.8%, as
compared to $307.1 million for the prior fiscal year. The increase was primarily attributable to an
increase in instructional and administrative costs of $88.8 million; an increase in materials and
computers costs of $16.5 million; and an increase in amortization of curriculum and online learning
systems of $4.6 million. Our instructional costs and services expenses grew in similar proportion to the
growth in revenue as these generally are variable costs directly associated with student enrollments. As
a percentage of revenues, instructional costs and services expenses were relatively flat at 58.9% for the
fiscal year ended June 30, 2012, as compared to 58.8% for the prior fiscal year.
Selling, Administrative and Other Operating Expenses. Selling, administrative and other operating
expenses for the year ended June 30, 2012 were $236.8 million, representing an increase of
$62.0 million, or 35.5%, as compared to $174.8 million for the prior fiscal year. This increase was
principally attributable to an increase of $25.6 million in personnel costs primarily due to growth in
headcount related to the number of teachers and enrollment counselors necessary to service the
increased number of students, and increased professional services and marketing and advertising
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expenses. As a percentage of revenues, selling, administrative and other operating expenses were
essentially flat at 33.4% for the year ended June 30, 2012 as compared to 33.5% for the prior fiscal
year.
Product Development Expenses. Product development expenses include costs related to new
products and information technology systems. Product development expenses for the year ended
June 30, 2012 were $25.6 million, representing an increase of $9.3 million, or 57.1%, as compared to
$16.3 million for the prior fiscal year. This increase was primarily attributable to an increase of
$7.7 million in professional services expenses and an increase of $4.9 million in personnel costs due to
growth in headcount, partially offset by the timing and nature of development projects and related
impact to capitalization rates which were lower than historical levels. As a percentage of revenues,
product development expenses increased to 3.6% for the year ended June 30, 2012, as compared to
3.1% for the prior fiscal year.
Net Interest Expense. Net interest expense for the year ended June 30, 2012 was $1.0 million, as
compared to net interest expense of $1.2 million for the prior fiscal year. The decrease was primarily
due to lower interest rates on our capital leases and equipment financing arrangements for the year
ended June 30, 2012 as compared to the prior fiscal year.
Income Taxes.
Income tax expense for the year ended June 30, 2012 was $11.9 million, or 42.4%
of income before income taxes, as compared to an income tax expense of $11.3 million, or 49.3% of
income before taxes, for the prior fiscal year. The decrease in the effective tax rate was primarily
attributable to additional nondeductible costs incurred in fiscal 2011 and other nondeductible costs, as
well as an increase in pretax income in lower tax foreign jurisdictions. This was partially offset by
changes in available research and development credits between years.
Noncontrolling Interest. Net loss attributable to noncontrolling interest for the years ended
June 30, 2012 and 2011 was $1.4 million and $1.1 million, respectively. Noncontrolling interest reflects
the after-tax losses attributable to shareholders in our joint ventures in the Middle East and
Middlebury Interactive Languages. Our noncontrolling interest fluctuates in proportion to the operating
results of these respective joint ventures.
Comparison of Years Ended June 30, 2011 and 2010
Revenues. Our revenues for the year ended June 30, 2011 were $522.4 million, representing an
increase of $137.9 million, or 35.9%, as compared to revenues of $384.5 million for the prior fiscal
year. Organic revenue growth was 23.7%. Revenue from acquisitions was $40.1 million and contributed
10.4% to revenue growth. Revenue from new initiatives was $7.0 million and contributed 1.8% to
revenue growth. Total average enrollments increased 45.7% to 98,890 for the year ended June 30, 2011
from 67,878 for the prior fiscal year. The increase in average enrollments was attributable to 23.4%
acquired enrollment growth and 22.3% organic enrollment growth.
Instructional Costs and Services Expenses.
Instructional costs and services expenses for the year
ended June 30, 2011 were $307.1 million, representing an increase of $85.1 million, or 38.3%, as
compared to instructional costs and services expenses of $222.0 million for the prior fiscal year. This
increase was primarily attributable to a $63.9 million increase in expenses to operate and manage
schools including the programs acquired with KCDL and the MIL summer programs. In addition, costs
to supply curriculum, books, educational materials and computers to students increased $10.6 million,
and amortization of curriculum and online learning systems also increased $10.6 million. Included in
the $85.1 million increase in instructional costs and services expenses were start-up and launch expenses
of $7.5 million for several new initiatives. As a percentage of revenues, instructional costs and services
expenses increased to 58.8% for the year ended June 30, 2011, as compared to 57.7% for the prior
fiscal year. This increase as a percentage of revenues was primarily attributable to increased
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amortization of curriculum and online learning systems, expenses for new initiatives that did not have
the corresponding growth in revenues in the year, and an increase in the percentage of high school
enrollments relative to total enrollments, as high school enrollments have higher costs as a percentage
of revenues due to increased teacher and related services costs. These increases were partially offset by
lower fulfillment costs for materials and computers, increased productivity at the schools we manage,
and leverage of fixed school infrastructure costs.
Selling, Administrative and Other Operating Expenses. Selling, administrative and other operating
expenses for the year ended June 30, 2011 were $174.8 million, representing an increase of
$57.4 million, or 48.9%, as compared to selling, administrative and other operating expenses of
$117.4 million for the prior fiscal year. This increase was primarily attributable to increases in strategic
marketing ,including brand awareness and student recruitment; personnel costs, including those
acquired with KCDL and AEC; merger and acquisition transaction and integration expenses;
depreciation and amortization, including the effects of purchase accounting; financial systems and
process improvement costs; and one-time stock compensation expenses. Included in the $57.4 million
increase in selling, administrative and other operating expenses were expenses of $6.6 million for
several new initiatives. As a percentage of revenues, selling, administrative and other operating
expenses increased to 33.5% for the year ended June 30, 2011 as compared to 30.6% for the prior
fiscal year, primarily due to the items identified above.
Product Development Expenses. Product development expenses for the year ended June 30, 2011
were $16.3 million, representing an increase of $6.7 million, or 69.8%, as compared to product
development expenses of $9.6 million for the prior fiscal year. The increase was primarily due to
support for the Aventa curriculum acquired during the period as well as new projects, including
development expenses related to our financial systems implementation. Included in the $6.7 million
increase in product development expenses were expenses of $1.8 million for new initiatives and ERP
implementation expenses of $1.0 million. As a percentage of revenues, product development expenses
increased to 3.1% for the year ended June 30, 2011 as compared to 2.5% for the prior fiscal year,
primarily due to the items identified above.
Net Interest Expense. Net interest expense for the year ended June 30, 2011 was $1.2 million, as
compared to net interest expense of $1.3 million for the prior fiscal year. The decrease was primarily
due to lower interest rates on capital leases and notes payable for the year ended June 30, 2011 as
compared to the prior fiscal year.
Income Taxes.
Income tax expense for the year ended June 30, 2011 was $11.3 million, or 49.3%
of income before income taxes, as compared to an income tax expense of $13.2 million, or 38.8% of
income before taxes, for the prior fiscal year. The increase in rate was primarily attributable to
nondeductible costs incurred in the 2011 fiscal year related to transactions that closed during the year
ended June 30, 2011. Without these nondeductible transaction costs, the effective income tax rate for
the year ended June 30, 2011 would have been 43.4% of income before taxes. This increased rate was
reduced somewhat by tax credits recognized in the year ended June 30, 2011 for research and
development activities in the 2011 fiscal year. Without these credits, the effective income tax rate for
the year ended June 30, 2011 would have been 51.8% of income before taxes.
Noncontrolling Interest. Net loss attributable to noncontrolling interest for the years ended
June 30, 2011 and 2010 was $1.1 million and $0.6 million, respectively. Noncontrolling interest reflects
the after-tax losses attributable to shareholders in our joint ventures in the Middle East and
Middlebury Interactive Languages.
72
Discussion of Seasonality of Financial Condition
Certain accounts in our balance sheet are subject to seasonal fluctuations. As our enrollments and
revenues grow, we expect these seasonal trends to be amplified. The bulk of our materials are shipped
to students prior to the beginning of the school year, usually in July or August. In order to prepare for
the upcoming school year, we generally build up inventories during the fourth quarter of our fiscal
year. Therefore, inventories tend to be at the highest levels at the end of our fiscal year. In the first
quarter of our fiscal year, inventories tend to decline significantly as materials are shipped to students.
In our fourth quarter, inventory purchases and the extent to which we utilize early payment discounts
will impact the level of accounts payable.
Accounts receivable balances tend to be at the highest levels in the first quarter of our fiscal year
as we begin billing for all enrolled students and our billing arrangements include upfront fees for many
of the elements of our offering. These upfront fees result in seasonal fluctuations to our deferred
revenue balances. State education budgets, which remain under pressure due to the current economic
environment and public school funding levels, including for the online public schools that we manage,
have been reduced in many states over the past few years and even mid-year adjustments have
occurred. We routinely monitor state legislative activity and regulatory proceedings that might impact
the funding received by the schools we serve and to the extent possible, factor potential outcomes into
our business planning decisions. We have taken reserves during fiscal 2012 in light of certain funding
proposals and for individual school deficit allowances in several states. In addition, because of current
economic pressures on state funding, some states are delaying their payments to public schools. We
have experienced delays in receiving payments from our Managed Public Schools that depend on state
funding before remitting payment to us. As a result of these deferred payments, we have experienced
higher accounts receivable throughout the second half of fiscal year 2012 than prior years and our
accounts receivable balance at June 30, 2012 was substantially higher than experienced in prior years.
We currently expect to receive deferred payments from one of our largest states in the first quarter of
fiscal year 2013.
Generally, deferred revenue balances related to the schools tend to be highest in the first quarter,
when the majority of students enroll. Since the deferred revenue is amortized over the course of the
school year, which typically ends in May or June, the balance is normally at its lowest at the end of our
fiscal year. Generally, deferred revenues from virtual and blended public schools have not been a
source of liquidity as most schools receive their funding over the course of the school year.
The deferred revenue related to our direct-to-consumer business results from advance payments
for 12 month subscriptions to our online school. These advance payments are amortized over the life of
the subscription and tend to be highest at the end of the fourth quarter and first quarter, when the
majority of subscriptions are sold.
Liquidity and Capital Resources
As of June 30, 2012, we had net working capital, or current assets minus current liabilities, of
$289.2 million. Our working capital includes cash and cash equivalents of $144.7 million, including
$7.3 million associated with our two joint ventures, and accounts receivable of $160.9 million. Our
working capital provides a significant source of liquidity for our normal operating needs. Our accounts
receivable balance fluctuates throughout the fiscal year based on the timing of customer billings and
collections and tends to be highest in the first fiscal quarter as we begin billing for students. In
addition, our cash and accounts receivable were significantly in excess of our accounts payable and
short-term accrued liabilities at June 30, 2012.
We have a $35 million revolving credit agreement with PNC Bank, N.A. (‘‘PNC’’) for general
corporate operating purposes (the ‘‘Credit Agreement’’). The Credit Agreement provides the ability to
fund periods until cash is received from the schools. The Credit Agreement matures in December 2012
73
and we currently expect to enter into a new line of credit agreement prior to termination of the
existing line of credit, although there can be no guarantee that we will do so. Interest is charged, at our
option, either at: (i) the higher of (a) the rate of interest announced by PNC from time to time as its
‘‘prime rate’’ and (b) the federal funds rate plus 0.5%; or (ii) the applicable London Interbank Offered
Rate (‘‘LIBOR’’) divided by a number equal to 1.00, minus the maximum aggregate reserve
requirement which is imposed on member banks of the Federal Reserve System against ‘‘Eurocurrency
liabilities,’’ plus the applicable margin for such loans, which ranges between 1.50% and 2.00%, based
on the leverage ratios (as defined in the Credit Agreement). We pay a quarterly commitment fee on
the unused portion available under the Credit Agreement. The Credit Agreement includes a
$5.0 million letter of credit facility. Issuance of letters of credit reduces the availability of permitted
borrowings under the Credit Agreement.
Borrowings under the Credit Agreement are secured by substantially all of our assets. The Credit
Agreement contains a number of financial and other covenants that, among other things, restrict our
and our subsidiaries abilities to incur additional indebtedness, grant liens, or other security interests,
make certain investments, become liable for contingent liabilities, make specified restricted payments,
including dividends, dispose of assets or stock, including the stock of our subsidiaries, or make capital
expenditures above specified limits and engage in other matters customarily restricted in senior secured
credit facilities. We must also maintain a maximum debt leverage ratio. These covenants are subject to
certain qualifications and exceptions. As of June 30, 2012, we were in compliance with these covenants.
As of June 30, 2012, no borrowings were outstanding on the line of credit and approximately
$0.3 million was reserved for a letter of credit.
We incur capital lease obligations under a lease line of credit with PNC Equipment Finance, LLC
with annual borrowing limits. Capital lease borrowings are repaid over three years following the
incurrence of a lease with a bargain purchase option at the end of the term. We have pledged the
assets financed under the equipment lease line of credit to secure the amounts outstanding. During
fiscal year 2012, we had $27.5 million available under our lease line of credit which was fully utilized to
acquire student computers and related hardware during fiscal 2012. In July 2012, our availability under
the lease line of credit was increased to $35 million for student computer leasing during our 2013 fiscal
year. This borrowing availability expires in August 2013 and interest rates on the new borrowings are
based upon an initial rate of 2.91% modified by changes in the three year interest rate swaps rate as
published in the Federal Reserve Statistical Release H.15, ‘‘Selected Interest Rates,’’ between June 11,
2012 and the Lease Commencement Date.
Our cash requirements consist primarily of day-to-day operating expenses, capital expenditures and
contractual obligations with respect to facility leases, capital equipment leases and other operating
leases. We lease all of our office facilities. We expect to make future payments on existing leases from
cash generated from operations. We believe that the combination of funds to be generated from
operations, net working capital on hand and access to our line of credit will be adequate to finance our
ongoing operations for the foreseeable future. In addition, to a lesser degree, we continue to explore
acquisitions, strategic investments and joint ventures related to our business that we may acquire using
cash, stock, debt, contribution of assets or a combination thereof.
Operating Activities
Net cash provided by operating activities for the year ended June 30, 2012 was $33.0 million,
compared to $67.2 million for the year ended June 30, 2011. Cash from operations is impacted by the
timing of cash collections from products and services provided and payment of operating costs to fund
the continued growth and expansion of our business. The decrease in cash from operations from the
prior year was primarily the result of increases in accounts receivable and, to a lesser extent,
inventories. Our accounts receivable increased in fiscal 2012 because of the increase in the number of
schools under our management and increased payment delays from certain managed schools that
74
depend on state funding before remitting payment to us. The decrease in net cash provided by
operating activities in fiscal 2012 was also attributable to our acquisition of the Kaplan/Insight Assets,
where we did not acquire working capital, to our growth initiatives such as expansion of our Flex
schools, and growth in the number of schools and students supported. Our inventories have increased
due to normal late year purchasing as we build up inventories for materials shipment to students during
the first quarter of fiscal year 2013 and the additional materials required to support new schools
opening in fiscal year 2013.
Net cash provided by operating activities for the year ended June 30, 2011 was $67.2 million
compared to net cash provided by operating activities for the year ended June 30, 2010 of
$54.7 million. While net income decreased, cash provided by operating activities increased primarily
due to an increase in depreciation and amortization, a reduction in growth of accounts receivable and
increases in accounts payable, stock compensation expense and deferred rent. Offsetting these factors
was an increase in cash used in inventories and a decrease in deferred income taxes.
Investing Activities
Net cash used in investing activities for the years ended 2012, 2011 and 2010 was $61.2 million,
$83.0 million and $24.3 million, respectively. Net cash used in investing activities for the year ended
June 30, 2012 was primarily due to investment of $32.5 million in property and equipment, including
internally developed and purchased software, investment in capitalized curriculum of $16.1 million,
primarily related to the production of high school courses and elementary school math courses and the
purchase of certain assets from KVE for $12.6 million.
Net cash used in investing activities for the year ended June 30, 2011 was primarily due to
investment in capitalized curriculum of $18.1 million, primarily related to the production of high school
courses and elementary school math courses; investment of $29.6 million in property and equipment,
including internally developed and purchased software, the purchase of AEC for $24.5 million and the
$10.0 million investment in Web.
Net cash used in investing activities for the year ended June 30, 2010 was primarily due to
investment in capitalized curriculum of $13.9 million, primarily related to the production of high school
courses and elementary school math courses, investment of $10.4 million in property and equipment,
including internally developed and purchased software, and cash placed in escrow of $0.8 million.
Financing Activities
Net cash (used in) provided by financing activities for the years ended June 30, 2012, 2011 and
2010 was $(19.8) million, $127.1 million and $1.9 million, respectively.
For the year ended June 30, 2012, net cash used in financing activities consisted primarily of
payments on capital leases and software financing arrangements totaling $18.4 million and excess tax
benefit from stock based compensation of $3.1 million, offset by proceeds from the exercise of stock
options of $3.4 million.
For the year ended June 30, 2011, net cash provided by financing activities primarily consisted of
the proceeds from the issuance of restricted common stock in a private transaction with Technology
Crossover Ventures of $125.6 million, proceeds from the exercise of stock options of $13.4 million and
the excess tax benefit from stock compensation expense of $5.0 million. These amounts were partially
offset by payments on capital leases and notes payable totaling $17.1 million.
For the year ended June 30, 2010, net cash provided by financing activities primarily consisted of
the proceeds from the exercise of stock options of $8.5 million, proceeds received from the minority
interest contribution of $3.4 million, and the excess tax benefit from stock compensation expense of
75
$3.9 million. These amounts were partially offset by payments on capital leases and notes payable
totaling $14.0 million.
Contractual Obligations
Our contractual obligations consist primarily of leases for office space, capital leases for equipment
and other operating leases. The following summarizes our long-term contractual obligations as of
June 30, 2012, which increased from approximately $75.9 million as of June 30, 2011 due to increases
in our leased student computers and office space rental commitment:
Total
2013
2014
2015
2016
2017
Thereafter
For Years Ended June 30,
(In thousands)
Contractual Obligations at June 30, 2012
Capital leases(1) . . . . . . . . . . . . . . . . . . . . $32,057 $16,625 $11,266 $ 4,163 $
Operating leases . . . . . . . . . . . . . . . . . . . .
Long term obligations(1) . . . . . . . . . . . . . .
61,516
1,963
6,492
—
6,382
785
5,814
1,178
3 $ — $ —
30,599
—
6,016
—
6,213
—
Total
. . . . . . . . . . . . . . . . . . . . . . . . . . . . $95,536 $23,617 $18,433 $10,655 $6,216 $6,016 $30,599
(1) Includes interest expense.
For the schools where we provide turn-key management services, we typically take responsibility
for any school operating losses that the school may incur. These individual school operating losses, if
they occur, are recorded at the time as a reduction in revenues. Potential school operating losses are
not included as a commitment or obligation in the above table as they cannot be determined at this
time and many not even occur.
Off-Balance Sheet Arrangements
We have provided guarantees of approximately $11.7 million related to lease commitments on the
buildings for certain of our Flex Schools. We contractually guarantee that certain schools under our
management will not have annual operating deficits and our management fees from these schools may
be reduced accordingly to cover any school operating deficits. Other than these lease and operating
deficit guarantees, we do not have any off-balance sheet arrangements that have or are reasonably
likely to have a current or future effect on our financial condition, changes in financial condition,
revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.
Impact of Inflation
We believe that inflation has not had a material impact on our results of operations for any of the
years in the three year period ended June 30, 2012. We cannot assure you that future inflation will not
have an adverse impact on our operating results and financial condition.
Recent Accounting Pronouncements
In June 2011, the FASB issued ASU 2011-05, Presentation of Comprehensive Income, which
provides authoritative guidance on disclosure requirements for comprehensive income. This accounting
update eliminates the option to present the components of other comprehensive income as part of the
statement of shareholders’ equity. Instead, the Company must report comprehensive income in either a
single continuous statement of comprehensive income which contains two sections, net income and
other comprehensive income, or in two separate but consecutive statements. This guidance will be
effective for the Company beginning on July 1, 2012. The Company does not expect the guidance to
76
impact its financial condition and results of operations, as it only requires a change in the format of
presentation.
In September 2011, the FASB issued ASU 2011-08, Testing Goodwill for Impairment, which provides
authoritative guidance to simplify how entities, both public and nonpublic, test goodwill for impairment.
This accounting update permits an entity to first assess qualitative factors to determine whether it is
more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for
determining whether it is necessary to perform the goodwill impairment test. The Company early
adopted the provisions of ASU 2011-08. The adoption of this standard did not have a material impact
on its financial condition, results of operations and disclosures.
In July 2012, the FASB issued ASU 2012-02, Intangibles—Goodwill and Other (Topic 350): Testing
Indefinite-Lived Intangible Assets for Impairment, which provides authoritative guidance on application of
the impairment model for indefinite-lived intangible assets. This accounting updated permits an entity
to assess qualitative factors to determine whether the existence of events and circumstances indicates
that it is more likely than not that indefinite-lived intangible assets are impaired as part of its annual
assessment. This guidance will be effective for the Company beginning on July 1, 2012, with early
adoption permitted. The Company does not expect the guidance to impact its consolidated financial
statements.
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Risk
At June 30, 2012 and June 30, 2011, we had cash and cash equivalents totaling $144.7 million and
$193.1 million, respectively. Future interest and investment income is subject to the impact of interest
rate changes and we may be subject to changes in the fair value of our investment portfolio as a result
of changes in interest rates. At June 30, 2012, a 1% gross increase in interest rates earned on cash
would result in $1.4 million annualized increase in interest income.
Our short-term debt obligations under our revolving credit facility are subject to interest rate
exposure, however as we had no outstanding balance on this facility as of June 30, 2012, fluctuations in
interest rates would not have any impact on our interest expense.
Foreign Currency Exchange Risk
We currently operate in several foreign countries, but we do not transact a material amount of
business in a foreign currency and therefore fluctuations in exchange rates will not have a material
impact on our financial statements. However, we are pursuing additional opportunities in international
markets and expect our international presence to grow. If we enter into any material transactions in a
foreign currency or establish or acquire any subsidiaries that measure and record their financial
condition and results of operation in a foreign currency, we will be exposed to currency transaction risk
and/or currency translation risk. Exchange rates between U.S. dollars and many foreign currencies have
fluctuated significantly over the last few years and may continue to do so in the future. Accordingly, we
may decide in the future to undertake hedging strategies to minimize the effect of currency fluctuations
on our financial condition and results of operations.
77
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Report of Independent Registered Public Accounting Firm . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Consolidated Balance Sheets as of June 30, 2012 and 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Consolidated Statements of Operations for the years ended June 30, 2012, 2011 and 2010 . . . . . .
Consolidated Statements of Redeemable Convertible Preferred Stock and Equity (Deficit) for the
years ended June 30, 2012, 2011 and 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Consolidated Statements of Cash Flows for the years ended June 30, 2012, 2011 and 2010 . . . . .
Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Schedule II—Valuation and Qualifying Accounts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Page
79
80
81
82
83
84
114
78
Report of Independent Registered Public Accounting Firm
Board of Directors and Stockholders
K12 Inc.
Herndon, Virginia
We have audited the accompanying consolidated balance sheets of K12 Inc. and subsidiaries (the
Company) as of June 30, 2012 and 2011 and the related consolidated statements of operations,
redeemable convertible preferred stock and equity (deficit), and cash flows for each of the three years
in the period ended June 30, 2012. In connection with our audits of the financial statements, we have
also audited the financial statement schedule listed in the accompanying index. These financial
statements and schedule are the responsibility of the Company’s management. Our responsibility is to
express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements, assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall presentation of the financial statements and schedule.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all
material respects, the financial position of K12 Inc. and subsidiaries at June 30, 2012 and 2011, and the
results of its operations and its cash flows for each of the three years in the period ended June 30,
2012, in conformity with accounting principles generally accepted in the United States of America.
Also, in our opinion, the financial statement schedule, when considered in relation to the basic
consolidated financial statements taken as a whole, presents fairly, in all material respects, the
information set forth therein.
We also have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the Company’s internal control over financial reporting as of June 30,
2012, based on criteria established in Internal Control—Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission (COSO) and our report dated September 12,
2012 expressed an unqualified opinion thereon.
Bethesda, Maryland
September 12, 2012
/s/ BDO USA, LLP
79
K12 INC.
CONSOLIDATED BALANCE SHEETS
Current assets
ASSETS
Cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Restricted cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accounts receivable, net of allowance of $1,624 and $1,777 at June 30, 2012 and June 30, 2011,
respectively . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Inventories, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Current portion of deferred tax asset
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Prepaid expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Property and equipment, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Capitalized software, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Capitalized curriculum development costs, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Intangible assets, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Goodwill . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Investment in Web International . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deposits and other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
June 30,
2012
2011
(In thousands,
except share and
per share data)
$ 144,652
1,501
$ 193,099
1,501
160,922
37,853
16,140
11,173
14,598
386,839
55,903
34,709
60,345
36,736
61,619
10,000
2,684
96,235
30,554
7,175
10,424
9,111
348,099
46,625
24,386
55,619
38,291
55,627
10,000
3,448
Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 648,835
$ 582,095
LIABILITIES, REDEEMABLE NONCONTROLLING INTEREST AND EQUITY
Current liabilities
Accounts payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accrued liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accrued compensation and benefits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred revenue . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Current portion of capital lease obligations
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Current portion of notes payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 23,951
13,802
17,355
25,410
15,950
1,145
$ 21,176
14,126
13,086
21,907
11,914
1,443
Total current liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred rent, net of current portion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Capital lease obligations, net of current portion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Notes payable, net of current portion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred tax liability . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other long term liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
97,613
6,974
15,124
777
31,591
1,908
83,652
4,698
8,552
2,299
9,604
3,343
Total liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
153,987
112,148
Commitments and contingencies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Redeemable noncontrolling interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
—
17,200
—
17,200
Equity:
K12 Inc. stockholders’ equity
Common stock, par value $0.0001; 100,000,000 shares authorized; 36,436,933 and 35,927,452 shares
issued and outstanding at June 30, 2012 and June 30, 2011, respectively . . . . . . . . . . . . . . . . . . .
Additional paid-in capital
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Series A Special Stock, par value $0.0001; 2,750,000 shares issued and outstanding at June 30, 2012 and
2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accumulated Other Comprehensive Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accumulated deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total K12 Inc. stockholders’ equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Noncontrolling interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
4
519,439
4
512,181
63,112
100
(109,161)
63,112
28
(126,704)
473,494
4,154
477,648
448,621
4,126
452,747
Total liabilities, redeemable noncontrolling interest and equity . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 648,835
$ 582,095
See accompanying summary of accounting policies and notes to consolidated financial statements.
80
CONSOLIDATED STATEMENTS OF OPERATIONS
K12 INC.
Year Ended June 30,
2012
2011
2010
Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cost and expenses
Instructional costs and services . . . . . . . . . . . . . . . . . . . . .
Selling, administrative and other operating expenses . . . . .
Product development expenses . . . . . . . . . . . . . . . . . . . . .
Total costs and expenses . . . . . . . . . . . . . . . . . . . . . . . . . . .
Income from operations . . . . . . . . . . . . . . . . . . . . . . . . . . .
Interest expense, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Income before income tax expense and noncontrolling
interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Add net loss attributable to noncontrolling interest . . . . . . .
Net income attributable to common stockholders, including
(In thousands, except share and per share data)
384,470
$
522,434
708,407
$
$
416,999
236,835
25,593
679,427
28,980
(989)
27,991
(11,882)
16,109
1,434
307,111
174,762
16,347
498,220
24,214
(1,207)
23,007
(11,342)
11,665
1,127
222,029
117,398
9,576
349,003
35,467
(1,331)
34,136
(13,249)
20,887
638
Series A stockholders . . . . . . . . . . . . . . . . . . . . . . . . . . .
$
17,543
$
12,792
$
21,525
Net income attributable to common stockholders per share,
excluding Series A stockholders:
Basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Weighted average shares used in computing per share
amounts:
Basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$
$
0.46
0.45
$
$
0.37
0.37
$
$
0.72
0.71
35,802,678
31,577,758
29,791,973
Diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
35,990,863
32,114,761
30,248,683
See accompanying summary of accounting policies and notes to consolidated financial statements.
81
K12 INC.
CONSOLIDATED STATEMENTS OF REDEEMABLE
CONVERTIBLE PREFERRED STOCK
AND EQUITY (DEFICIT)
K12 Inc Stockholders
Common Stock
Common Stock—A
Shares
Amount
Shares
Amount
Additional
Paid-in
Capital
Accumulated
Other
Comprehensive Accumulated Noncontrolling
Deficit
Interest
Income
.
.
.
.
.
.
.
.
.
.
.
.
.
(In thousands, except share data)
.
.
.
Balance, June 30, 2009 .
.
.
.
.
.
.
Net income (loss)(1)
.
.
Exercise of stock options .
.
.
Issuance of restricted stock awards
.
.
Forfeiture of restricted stock awards .
Exercise of stock warrants
.
.
Exercise of stock warrants on cashless provision
Stock based compensation expense
.
Excess tax benefit from stock-based
.
.
.
.
Accretion of redeemable noncontrolling
compensation .
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
interests to estimated redemption value .
Retirement of restricted stock for tax
.
.
withholding .
.
.
.
.
.
.
.
.
.
.
.
.
Balance, June 30, 2010 .
Net income (loss)(1)
.
.
Foreign currency translation adjustments
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
. 29,290,486
—
.
936,195
.
225,946
.
(22,089)
.
6,173
.
7,565
—
.
.
.
.
—
—
(2,864)
. 30,441,412
—
.
—
.
.
.
.
.
.
.
.
.
.
.
Comprehensive Income .
.
Stock based compensation expense
Exercise of stock options .
.
.
Excess tax benefit from stock-based
.
compensation .
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
Issuance of restricted stock awards
.
Forfeiture of restricted stock awards .
.
Series A Special Stock removal of redemption
provision and approval of conversion right
.
.
.
.
.
.
.
.
.
Accretion of redeemable noncontrolling
interests to estimated redemption value .
.
Stock issuance—TCV investment, net .
Retirement of restricted stock for tax
.
.
withholding .
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
Balance, June 30, 2011 .
Net income (loss)(1)
.
.
Foreign currency translation adjustments
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
Comprehensive Income .
.
Stock based compensation expense
Exercise of stock options .
.
.
Excess tax expense from stock-based
.
.
.
.
.
Issuance of restricted stock awards
.
.
.
Forfeiture of restricted stock awards .
Accretion of redeemable noncontrolling
compensation .
.
.
.
.
.
.
.
.
.
.
interests to estimated redemption value .
withholding .
Retirement of restricted stock for tax
.
.
.
.
Registration expenses for shares issued in
.
private placement
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
Balance, June 30, 2012 .
.
.
.
.
.
.
.
.
.
.
.
.
—
1,131,747
—
451,143
(40,618)
—
4,000,000
(56,232)
. 35,927,452
—
.
—
.
.
.
.
.
.
.
.
.
.
—
217,956
—
398,940
(52,411)
—
(55,004)
—
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
—
1
—
$ 4
—
—
—
—
—
—
—
—
—
—
3
—
—
—
—
—
—
—
—
—
—
3
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
— 343,304
—
—
8,544
—
—
—
—
—
50
—
—
—
5,934
—
—
—
—
3,935
(365)
(58)
— 361,344
—
—
—
—
—
—
—
—
—
9,466
13,364
4,954
—
—
—
— 2,750,000
63,112
—
—
—
—
(938)
—
— 125,618
—
(1,627)
—
—
—
—
—
—
—
—
—
—
—
—
—
28
—
—
—
—
—
—
—
—
—
(161,021)
21,525
—
—
—
—
—
—
—
—
—
(139,496)
12,792
—
—
—
—
—
—
—
—
—
—
4,414
(273)
—
—
—
—
—
—
—
—
—
4,141
(15)
—
—
—
—
—
—
—
—
—
—
2,750,000
—
—
$63,112
—
—
$512,181
—
—
$ 28
—
72
$(126,704)
17,543
—
$4,126
28
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
10,067
3,380
(3,122)
—
—
(1,462)
(1,292)
(313)
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
Total
186,700
21,252
8,544
—
—
50
—
5,934
3,935
(365)
(58)
225,992
12,777
28
12,805
9,466
13,364
4,954
—
—
63,112
(938)
125,619
(1,627)
$452,747
17,571
72
17,643
10,067
3,380
(3,122)
—
—
(1,462)
(1,292)
(313)
. 36,436,933
$ 4
2,750,000
$63,112
$519,439
$100
$(109,161)
$4,154
$477,648
(1)
Net income attributable to noncontrolling interest excludes $1.4 million, $1.1 million and $0.4 million for the years ended June 30, 2012, June 30, 2011 and
June 30, 2010, respectively due to the redeemable noncontrolling interest related to Middlebury Interactive Languages, which is reported outside of
permanent equity in the consolidated balance sheet (See Note 11).
See accompanying summary of accounting policies and notes to consolidated financial statements.
82
CONSOLIDATED STATEMENTS OF CASH FLOWS
K12 INC.
Cash flows from operating activities
Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Stock based compensation expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Excess tax benefit from stock based compensation . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred income taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Provision for doubtful accounts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Provision for inventory obsolescence . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Provision for (reduction of) student computer shrinkage and obsolescence . . . . . . . . . .
Changes in assets and liabilities:
Accounts receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Inventories
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Prepaid expenses
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other current assets
Deposits and other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accounts payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accrued liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Accrued compensation and benefits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred revenue . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Restricted cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred rent . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Year Ended June 30,
2012
2011
2010
(In thousands)
$ 16,109
$ 11,665
$ 20,887
58,033
10,067
3,122
10,297
204
1,618
1,038
(64,270)
(8,918)
(784)
(5,260)
764
2,794
(292)
4,275
3,351
—
843
42,934
9,466
(4,954)
10,978
1,472
1,060
219
(15,810)
(4,621)
363
(1,825)
(1,037)
2,726
615
1,976
6,760
1,842
3,384
25,761
5,934
(3,935)
11,858
308
1,019
(178)
(18,460)
4,840
327
(5,199)
30
2,326
1,012
2,271
6,203
(843)
519
Net cash provided by operating activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
32,991
67,213
54,680
Cash flows from investing activities
Purchase of property, equipment and software development costs . . . . . . . . . . . . . .
Capitalized curriculum development costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Purchase of Kaplan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Purchase of AEC, net of cash acquired of $3,841 . . . . . . . . . . . . . . . . . . . . . . . .
Purchase of IS Berne, net of cash acquired of $1,563 . . . . . . . . . . . . . . . . . . . . . .
Cash advanced for AEC performance escrow . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cash returned for AEC performance escrow . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cash paid for investment in Web . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
(32,477)
(16,123)
(12,641)
—
—
—
—
—
(29,563)
(18,086)
—
(24,543)
(839)
(6,825)
6,825
(10,000)
(10,357)
(13,904)
—
—
—
—
—
—
Net cash used in investing activities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
(61,241)
(83,031)
(24,261)
Cash flows provided by (used in) financing activities
Proceeds from issuance of common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Repayments on capital lease obligations
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Repayments on notes payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Proceeds from notes payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Borrowings from line of credit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Repayments under the line of credit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net proceeds from noncontrolling interest contribution . . . . . . . . . . . . . . . . . . . . .
Proceeds from exercise of stock options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Proceeds from exercise of stock warrants . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Payment of stock registration expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Excess tax benefit from stock based compensation . . . . . . . . . . . . . . . . . . . . . . . .
Repurchase of restricted stock for income tax withholding . . . . . . . . . . . . . . . . . . .
— 125,619
(15,135)
(1,969)
1,932
15,000
(15,000)
—
13,364
—
—
4,954
(1,627)
(16,600)
(1,820)
—
—
—
—
3,380
—
(313)
(3,122)
(1,292)
Net cash provided by (used in) financing activities . . . . . . . . . . . . . . . . . . . . . . . . .
(19,767)
127,138
Effect of foreign exchange rate changes on cash and cash equivalents . . . . . . . . . . . .
(430)
28
Net change in cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cash and cash equivalents, beginning of year . . . . . . . . . . . . . . . . . . . . . . . . . . . .
(48,447)
193,099
111,348
81,751
—
(12,945)
(1,029)
—
—
—
3,374
8,544
50
—
3,935
(58)
1,871
—
32,290
49,461
Cash and cash equivalents, end of year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$144,652
$193,099
$ 81,751
See accompanying summary of accounting policies and notes to consolidated financial statements.
83
K12 Inc.
Notes to Consolidated Financial Statements
1. Description of the Business
K12 Inc. and its subsidiaries (‘‘K12’’ or the ‘‘Company’’) is a technology-based education company.
The Company offers proprietary curriculum, software systems and educational services designed to
facilitate individualized learning for students primarily in kindergarten through 12th grade, (‘‘K-12’’).
The Company’s mission is to maximize a child’s potential by providing access to an engaging and
effective education, regardless of geographic location or socio-economic background. Since the
Company’s inception, the Company has invested approximately $305 million to develop and to a lesser
extent, acquire curriculum and online learning platforms that promote mastery of core concepts and
skills for students of all abilities. This learning system combines the Company’s curriculum and
offerings with an individualized learning approach well-suited for virtual and blended public schools,
school district online programs, public charter schools and private schools that utilize varying degrees of
online and traditional classroom instruction, and other educational applications. In contracting with a
virtual and blended public school, the Company typically provides students with access to the K12 online
curriculum, offline learning kits and the use of a personal computer in certain cases, in addition to
providing management services. For fiscal year 2013, the Company will manage virtual schools in 32
states and the District of Columbia.
In addition, the Company works closely as partners with a growing number of public schools,
school districts, private schools and charter schools enabling them to offer their students an array of
solutions, including full-time virtual programs, semester course and supplemental solutions. In addition
to curriculum, systems and programs, the Company provides teacher training, teaching services and
other support services.
2. Basis of Presentation
The consolidated financial statements include the accounts of the Company, its wholly-owned
subsidiaries and all controlled subsidiaries. All significant intercompany transactions and balances have
been eliminated in consolidation.
The Company operates in one operating and reportable business segment as a technology based
education company providing proprietary curriculum, software systems and educational services
designed to facilitate individualized learning for students primarily in kindergarten through 12th grade.
The Chief Operating Decision Maker evaluates profitability based only on consolidated results.
3. Summary of Significant Accounting Policies
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted
in the United States (‘‘GAAP’’) requires management to make estimates and assumptions affecting the
reported amounts of assets and liabilities and contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during the reporting period.
On an ongoing basis, the Company evaluates its estimates and assumptions, including those related to
allowance for doubtful accounts, inventory reserves, amortization periods, the allocation of purchase
price to the fair value of net assets and liabilities acquired in business combinations, fair values used in
asset impairment evaluations, valuation of long-lived assets, fair value of redeemable noncontrolling
interest, contingencies, income taxes and stock-based compensation expense. The Company bases its
estimates on historical experience and various assumptions that it believes are reasonable under the
circumstances. The results of the analysis form the basis for making assumptions about the carrying
84
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
values of assets and liabilities that are not readily apparent from other sources. Actual results could
differ from those estimates.
Revenue Recognition and Concentration of Revenues
Revenues are principally earned from long-term contractual agreements to provide online
curriculum, books, materials, computers and management services to virtual and blended public schools,
traditional schools, school districts, public charter schools, and private schools. In addition to providing
the curriculum, books and materials, under most contracts, the Company manages virtual and blended
public schools, including monitoring academic achievement, teacher hiring and training, compensation
of school personnel, financial management, enrollment processing and procurement of curriculum,
equipment and required services. The schools receive funding on a per student basis from the state in
which the public school or school district is located. Shipments for schools that occur in the fourth
fiscal quarter and for the upcoming school year are recorded in deferred revenues.
Where the Company has determined that it is the primary obligor for substantially all expenses
under these contracts, the Company records the associated per student revenue received by the school
from its state funding school district up to the expenses incurred in accordance with ASC 605, Revenue
Recognition. As a result of being the primary obligor, amounts recorded as revenues and instructional
costs and services for the years ended June 30, 2012, 2011 and 2010 were $183.5 million, $136.1 million
and $106.6 million, respectively. For contracts where the Company is not the primary obligor, the
Company records revenue based on its net fees earned under the contractual agreement.
The Company generates revenues under contracts with virtual and blended public schools which
include multiple elements. These elements include providing each of a school’s students with access to
the Company’s online school and the component of lessons; offline learning kits, which include books
and materials to supplement the online lessons; the use of a personal computer and associated
reclamation services; internet access and technology support services; the services of a state-certified
teacher; and management and technology services required to operate a virtual public or blended
school In certain managed school contracts, revenue is determined directly by per enrollment funding.
Revenue is generally recognized ratably over the period services are performed.
The Company has determined that the elements of its contracts are valuable to schools in
combination, but do not have standalone value. As a result, the elements within the Company’s
multiple-element contracts do not qualify for separate units of accounting. Accordingly, the Company
accounts for revenues under multiple element arrangements as a single unit of accounting and
recognizes the entire arrangement based upon the approximate rate at which it incurs the costs
associated with each element.
Under the contracts where the Company provides turnkey management services to schools, the
Company has generally agreed to absorb any operating losses of the schools in a given school year.
These school operating losses represent the excess of costs incurred over revenues earned by the virtual
or blended public school as reflected on its respective financial statements, including Company charges
to the schools. A school operating loss in one year does not necessarily mean the Company anticipates
losing money on the entire contract with the school. However, a school operating loss may reduce the
Company’s ability to collect its management fees in full and recognized revenues are reduced
accordingly to reflect the expected cash collections from such schools. The Company amortizes the
estimated school operating loss against revenues based upon the percentage of actual revenues in the
85
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
period to total estimated revenues for the fiscal year. Management periodically reviews its estimates of
full year school revenues and operating expenses and amortizes the net impact of any changes to these
estimates over the remainder of the fiscal year. Actual school operating losses may vary from these
estimates or revisions, and the impact of these differences could have a material impact on results of
operations. Since the end of the school year coincides with the end of the Company’s fiscal year,
annual revenues are generally based on actual school revenues and actual costs incurred in the
calculation of school operating losses. For the years ended June 30, 2012, 2011 and 2010, the
Company’s revenue included a reduction for these school operating losses of $54.8 million,
$39.2 million and $32.6 million, respectively.
The Company provides certain online curriculum and services to schools and school districts under
subscription and perpetual license agreements. Revenue under these agreements is recognized in
accordance with ASC 605 when all of the following conditions are met: there is persuasive evidence of
an arrangement; delivery has occurred or services have been rendered; the amount of fees to be paid
by the customer is fixed and determinable; and the collectability of the fee is probable. Revenue from
the licensing of curriculum under subscription arrangements is recognized on a ratable basis over the
subscription period. Revenue from the licensing of curriculum under non-cancelable perpetual
arrangements is recognized when all revenue recognition criteria have been met. Revenue from
professional consulting, training and support services are deferred and recognized ratably over the
service period.
Other revenues are generated from individual customers who prepay and have access for 12 to
24 months to company-provided online curriculum. The Company recognizes these revenues pro rata
over the maximum term of the customer contract. Revenues from associated offline learning kits are
recognized upon shipment.
During the years ended June 30, 2012, 2011 and 2010, approximately 84%, 85% and 97%,
respectively, of the Company’s revenues were recognized from schools we managed. The Company had
contracts with two schools that represented approximately 13% and 12% of revenues, respectively,
during 2012, and each individually represented approximately 13% of revenues in 2011 and 2010.
Approximately 11% and 12% of accounts receivable was attributable to a contract with one school as
of June 30, 2012 and 2011.
Shipping and Handling costs
Shipping and handling costs are expensed when incurred and are classified as cost of goods sold in
the accompanying consolidated statements of operations. Shipping and handling charges invoiced to a
customer and are included in revenues.
Research and Development Costs
All research and development costs, including patent application costs, are expensed as incurred.
Cash and Cash Equivalents
Cash and cash equivalents generally consist of cash on hand and cash held in money market and
demand deposit accounts. The Company considers all highly liquid investments with maturities of three
months or less when purchased to be cash equivalents. All non-interest bearing cash balances were fully
86
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
insured at June 30, 2012 due to a temporary federal program in effect from December 31, 2010
through December 31, 2012. Under the program, there is no limit to the amount of insurance for
eligible accounts. Beginning in 2013, insurance coverage will revert to $250,000 per depositor at each
financial institution, and the Company’s non-interest bearing cash balances may exceed federally
insured limits.
Restricted Cash and Cash Equivalents
Restricted cash consists of cash held in escrow pursuant to an agreement with a virtual public
school that the Company manages. The Company established an escrow account for the benefit of the
school’s sponsoring school district in the event a future claim is made and for the benefit of one of the
Company’s inventory suppliers for delivery of materials purchased on behalf of the Company.
Allowance for Doubtful Accounts
The Company maintains an allowance for uncollectible accounts primarily for estimated losses
resulting from the inability or failure of individual customers to make required payments. The
Company analyzes accounts receivable, historical percentages of uncollectible accounts and changes in
payment history when evaluating the adequacy of the allowance for uncollectible accounts. Actual
write-offs might exceed the recorded allowance, but collection experience has been consistent with the
Company’s estimates.
Inventories
Inventories consist primarily of textbooks and curriculum materials, a majority of which are
supplied to virtual and blended public schools and utilized directly by students. Inventories represent
items that are purchased and held for sale and are recorded at the lower of cost (first-in, first-out
method) or market value. Excess and obsolete inventory reserves are established based upon the
evaluation of the quantity on hand relative to demand. The excess and obsolete inventory reserve at
June 30, 2012 and 2011 was $4.5 million and $2.9 million, respectively. The increase during 2012
related to the write-down of certain printed textbooks that are no longer being used in the Company’s
provision of curriculum.
Other Current Assets
Other current assets consist primarily of textbooks, curriculum materials and other supplies which
are expected to be returned upon the completion of the school year. Materials not returned are
expensed as part of instructional costs and services.
Property and Equipment
Property, equipment and capitalized software development costs are stated at cost less accumulated
depreciation and amortization. Depreciation expense is calculated using the straight-line method over
the estimated useful life of the asset (or the lesser of the term of the lease and the estimated useful life
of the asset under capital lease). Amortization of assets capitalized under capital lease arrangements is
included in depreciation expense. Leasehold improvements are amortized over the lesser of the lease
term or the estimated useful life of the asset. The Company determines the lease term in accordance
with ASC 840, Leases, as the fixed non-cancelable term of the lease plus all periods for which failure to
87
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
renew the lease imposes a penalty on the lessee in an amount such that renewal appears, at the
inception of the lease, to be reasonably assured. Property and equipment are depreciated over the
following useful lives:
Student computers . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Computer hardware . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Computer software . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Web site development costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Office equipment
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Furniture and fixtures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Leasehold Improvements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Useful Life
3 years
3 years
3 years
3 years
5 years
7 years
3 - 12 years
Capitalized Software Development Costs
The Company develops software for internal use. Software development costs incurred during the
application development stage are capitalized in accordance with ASC 350, Intangibles. The Company
amortizes these costs over the estimated useful life of the software, which is generally three years.
Capitalized software development costs are stated at cost less accumulated amortization.
Capitalized software development additions totaled $22.0 million, $9.9 million and $9.3 million for
the years ended June 30, 2012, 2011 and 2010, respectively. Amortization expense for the years ended
June 30, 2012, 2011 and 2010 was $11.7 million, $8.9 million and $3.9 million, respectively.
Capitalized Curriculum Development Costs
The Company internally develops curriculum, which is primarily provided as online content and
accessed via the Internet. The Company also creates textbooks and other materials that are
complementary to online content.
The Company capitalizes curriculum development costs incurred during the application
development stage in accordance with ASC 350. The Company capitalizes curriculum development
costs during the design and deployment phases of the project. Many of the Company’s new courses
leverage off of proven delivery platforms and are primarily content, which has no technological hurdles.
As a result, a significant portion of the Company’s courseware development costs qualify for
capitalization due to the concentration of its development efforts on the content of the courseware.
Capitalization ends when a course is available for general release to its customers, at which time
amortization of the capitalized costs begins. The period of time over which these development costs will
be amortized is generally five years.
Total capitalized curriculum development additions were $16.1 million, $18.1 million and
$13.9 million for the years ended June 30, 2012, 2011 and 2010, respectively. These amounts are
recorded on the accompanying consolidated balance sheet, net of amortization and impairment charges.
Amortization and impairment charges are recorded in product development expenses on the
accompanying consolidated statement of operations. Amortization expense for the years ended June 30,
2012, 2011 and 2010 were $12.4 million, $10.4 million and $5.7 million, respectively.
88
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
Noncontrolling Interest
Earnings or losses attributable to other stockholders of a consolidated affiliated company are
classified separately as ‘‘noncontrolling interest’’ in the Company’s consolidated statements of
operations. Net loss attributable to noncontrolling interest reflects only its share of the after-tax
earnings or losses of an affiliated company. Income taxes attributable to noncontrolling interest are
determined using the applicable statutory tax rates in the jurisdictions where such operations are
conducted. These rates vary from country to country. The Company’s consolidated balance sheets
reflect noncontrolling interest within the equity section of the consolidated balance sheet rather than in
the mezzanine section of the consolidated balance sheet, except for redeemable noncontrolling
interests. Noncontrolling interest is classified separately in the Company’s statements of equity.
Redeemable Noncontrolling Interests
Noncontrolling interests in subsidiaries that are redeemable outside of the Company’s control for
cash or other assets are classified outside of permanent equity at redeemable value which approximates
fair value. The redeemable noncontrolling interests are adjusted to their fair value at each balance
sheet date. The resulting increases or decreases in the estimated redemption amount are affected by
corresponding charges against retained earnings or, in the absence of retained earnings, additional
paid-in-capital.
Goodwill and Intangibles
The Company records as goodwill the excess of purchase price over the fair value of the
identifiable net assets acquired. Finite-lived intangible assets acquired in business combinations subject
to amortization are recorded at their fair value. Finite-lived intangible assets include trade names,
acquired customers and non-compete agreements. Such intangible assets are amortized on a
straight-line basis over their estimated useful lives. As of June 30, 2012 and 2011, finite-lived intangible
assets were recorded at $44.9 million and $41.8 million, respectively and accumulated amortization of
$8.2 million and $3.5 million, respectively. Amortization expense for the years ended June 30, 2012,
2011 and 2010 was $4.7 million, $3.1 million and $0.2 million, respectively. Future amortization of
intangible assets is $4.6 million, $3.1 million, $3.1 million, $3.0 million and $2.4 million in the years
ended June 30, 2013 through June 30, 2017, respectively, and $20.4 million thereafter. As of June 30,
2012 and 2011, goodwill balances were recorded for at $61.6 million and $55.6 million, respectively
The Company reviews its recorded finite-lived intangible assets for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. If
the total of the expected undiscounted future cash flows is less than the carrying amount of the asset, a
loss is recognized for the difference between fair value and the carrying value of the asset.
ASC 350, Goodwill and Other Intangible Assets prescribes a process for impairment testing of
goodwill and intangibles with indefinite lives, which is performed annually, as well as when an event
triggering impairment may have occurred. Goodwill and intangible assets deemed to have an indefinite
life are tested for impairment on an annual basis, or earlier when events or changes in circumstances
suggest the carrying amount may not be fully recoverable. The Company has elected to perform its
annual assessment on May 31st. For the years ended June 30, 2012, 2011 and 2010 no goodwill
impairment was recorded.
89
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
The following table represents goodwill additions during fiscal years ended June 30, 2012, 2011 and
2010:
Rollforward of Goodwill
Balance as of June 30, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Kaplan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Amount
($ in millions)
$55.6
5.8
0.2
Balance as of June 30, 2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$61.6
Intangible Assets:
($ in millions)
Trade names . . . . . . . . . . . . . . . . . . .
Customer and distributor relationships
Developed technology . . . . . . . . . . . .
Other . . . . . . . . . . . . . . . . . . . . . . . .
Impairment of Long-Lived Assets
2012
2011
Gross
Carrying
Amount
Accumulated
Amortization
Net
Carrying
Value
Gross
Carrying
Amount
Accumulated
Amortization
Net
Carrying
Value
$24.0
18.9
1.5
0.5
$44.9
$(3.1)
(4.0)
(0.9)
(0.2)
$(8.2)
$20.9
14.9
0.6
0.3
$36.7
$23.3
16.5
1.5
0.5
$41.8
$(1.6)
(1.3)
(0.4)
(0.2)
$(3.5)
$21.7
15.2
1.1
0.3
$38.3
Long-lived assets include property, equipment, capitalized curriculum and software developed or
obtained for internal use. In accordance with ASC 360, the Company reviews its recorded long-lived
assets for impairment whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be fully recoverable. If the total of the expected undiscounted future cash flows is less
than the carrying amount of the asset, a loss is recognized for the difference between fair value and the
carrying value of the asset. There was no impairment charge for the years ended June 30, 2012, 2011 or
2010,.
Income Taxes
The Company accounts for income taxes in accordance with ASC 740, Income Taxes. Under
ASC 740, deferred tax assets and liabilities are computed based on the difference between the financial
reporting and income tax bases of assets and liabilities using the enacted marginal tax rate. ASC 740
requires that the net deferred tax asset be reduced by a valuation allowance if, based on the weight of
available evidence, it is more likely than not that some portion or all of the net deferred tax asset will
not be realized.
Sales Taxes
Sales tax collected from customers is excluded from revenues. Collected but unremitted sales tax is
included as part of accrued liabilities in the accompanying consolidated balance sheets. Revenues do
90
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
not include sales tax as the Company considers itself a pass-through conduit for collecting and
remitting sales tax.
Stock-Based Compensation
The Company estimates the fair value of share-based awards on the date of grant. The fair value
of stock options is determined using the Black-Scholes option-pricing model and the fair value of
restricted stock awards is based on the closing price of the Company’s common stock on the date of
grant. The determination of the fair value of the Company’s stock option awards and restricted stock
awards is based on a variety of factors including, but not limited to, the Company’s common stock
price, expected stock price volatility over the expected life of awards, and actual and projected exercise
behavior. Additionally, the Company has estimated forfeitures for share-based awards at the dates of
grant based on historical experience, adjusted for future expectation. The forfeiture estimate is revised
as necessary if actual forfeitures differ from these estimates.
Advertising and Marketing Costs
Advertising and marketing costs consist primarily of internet advertising, online marketing, direct
mail, print media and television commercials and are expensed when incurred.
Series A Special Stock
The Company issued 2,750,000 shares of Series A Special stock in connection with an acquisition.
The holders of the Series A Special stock have the right to convert those shares into common stock on
a one-for-one basis and for the right to vote on all matters presented to K12 stockholders, other than
for the election and removal of directors, for which holders of the Series A Special stock have no
voting rights.
Net Income Per Common Share
The Company calculates net income per share in accordance with ASC 260, Earnings Per Share.
Under ASC 260, basic net income per common share is calculated by dividing net income by the
weighted-average number of common shares outstanding during the reporting period. The weighted
average number of shares of common stock outstanding includes vested restricted stock awards. Diluted
earnings per share (‘‘EPS’’) reflects the potential dilution that could occur assuming conversion or
exercise of all dilutive unexercised stock options. The dilutive effect of stock options and restricted
stock awards, was determined using the treasury stock method. Under the treasury stock method, the
proceeds received from the exercise of stock options and restricted stock awards, the amount of
compensation cost for future service not yet recognized by the Company and the amount of tax benefits
that would be recorded in additional paid-in capital when the stock options become deductible for
income tax purposes are all assumed to be used to repurchase shares of the Company’s common stock.
Stock options and restricted awards are not included in the computation of diluted earnings per share
when they are antidilutive. Common stock outstanding reflected in the Company’s consolidated balance
sheet includes restricted awards outstanding. Securities that may participate in undistributed earnings
with common stock are considered participating securities. Since the Series A Shares participate in all
dividends and distributions declared or paid with respect to common stock of the Company (as if a
holder of common stock), the Series A Shares meet the definition of participating security under
91
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
ASC 260. All securities that meet the definition of a participating security, regardless of whether the
securities are convertible, non-convertible or potential common stock securities, are included in the
computation of both basic and diluted EPS (as a reduction of the numerator) using the two-class
method. Under the two-class method, all undistributed earnings in a period are to be allocated to
common stock and participating securities to the extent that each security may share in earnings as if
all of the earnings for the period had been distributed.
The following schedule presents the calculation of basic and diluted net income per share:
Basic earnings per share computation:
Net income—K12 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Amount allocated to participating Series A stockholders . . . .
Income available to common stockholders—basic . . . . . . . . .
Weighted average common shares—basic historical . . . . . . . .
Basic net income per share . . . . . . . . . . . . . . . . . . . . . . .
Dilutive earnings per share computation:
Net income—K12 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Amount allocated to participating Series A stockholders . . . .
Income available to common stockholders—diluted . . . . . . .
$
$
$
$
$
$
$
Year Ended June 30,
2012
2011
2010
(In thousands except shares and
per share data)
17,543
$
(1,252) $
12,792
$
(1,031) $
16,291
35,802,678
0.46
$
$
11,761
31,577,758
0.37
$
$
21,525
—
21,525
29,791,973
0.72
$
17,543
(1,252) $
$
12,792
(1,031) $
16,291
$
11,761
$
21,525
—
21,525
Share computation:
Weighted average common shares—basic historical
Effect of dilutive stock options and restricted stock
. . . .
35,802,678
31,577,758
29,791,973
awards . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
188,185
537,003
456,710
Weighted average common shares outstanding—diluted . . .
35,990,863
32,114,761
30,248,683
Diluted net income per share . . . . . . . . . . . . . . . . . . . . . .
$
0.45
$
0.37
$
0.71
The number of shares of common stock outstanding at June 30, 2012 was 36,436,933.
As of June 30, 2012, 2011 and 2010, the shares of common stock issuable in connection with stock
options of 858,986, 317,913 and 1,048,749, respectively, were not included in the diluted loss per
common share calculation since their effect was anti-dilutive.
Fair Value Measurements
ASC 820, Fair Value Measurements and Disclosures defines fair value as the price that would be
received to sell an asset or paid to transfer a liability, in the principal or most advantageous market for
the asset or liability, in an orderly transaction between market participants at the measurement date.
ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of
observable inputs and minimize the use of unobservable inputs when measuring fair value.
92
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
ASC 820 describes three levels of inputs that may be used to measure fair value:
Level 1:
Inputs based on quoted market prices for identical assets or liabilities in active
markets at the measurement date.
Level 2: Observable inputs other than quoted prices included in Level 1, such as quoted
prices for similar assets and liabilities in active markets; quoted prices for identical
or similar assets and liabilities in markets that are not active; or other inputs that
are observable or can be corroborated by observable market data.
Level 3:
Inputs reflect management’s best estimate of what market participants would use in
pricing the asset or liability at the measurement date. The inputs are unobservable
in the market and significant to the instruments valuation.
The carrying values reflected in the Company’s consolidated balance sheets for cash and cash
equivalents, receivables, inventory and short and long term debt approximate their fair values.
The redeemable noncontrolling interest is a result of the Company’s venture with Middlebury
College to form Middlebury Interactive Languages. Under the agreement, Middlebury College has an
irrevocable election to sell all (but not less than all) of its Membership Interest to the Company (put
right). The fair value of the redeemable noncontrolling interest reflects management’s best estimate of
the redemption of the put right.
The following table summarizes certain fair value information at June 30, 2012 for assets and
liabilities measured at fair value on a recurring basis.
Description
Fair Value
Fair Value Measurements Using:
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
Significant
Other
Observable
Input
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
(In thousands)
Redeemable Noncontrolling Interest in Middlebury
Joint Venture . . . . . . . . . . . . . . . . . . . . . . . . . . .
Investment in Web International Education Group .
$17,200
$10,000
Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$27,200
$—
$—
$—
$—
$—
$—
$17,200
$10,000
$27,200
93
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
The following table summarizes certain fair value information at June 30, 2011 for assets and
liabilities measured at fair value on a recurring basis.
Description
Fair Value
Fair Value Measurements Using:
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
Significant
Other
Observable
Input
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
(In thousands)
Redeemable Noncontrolling Interest in Middlebury
Joint Venture . . . . . . . . . . . . . . . . . . . . . . . . . . .
Investment in Web International Education Group .
$17,200
$10,000
Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$27,200
$—
$—
$—
$—
$—
$—
$17,200
$10,000
$27,200
The following table presents activity related to our fair value measurements categorized as Level 3
of the valuation hierarchy, valued on a recurring basis, for the fiscal year ended June 30, 2012.
Fair Value
June 30, 2011
Purchases,
Issuances, and
Settlements
Net
Unrealized
Gains/(Losses)
Fair Value
June 30, 2012
(In thousands)
Redeemable Noncontrolling Interest in
Middlebury Joint Venture . . . . . . . . . . . . . .
$17,200
Investment in Web International Education
Group . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$10,000
$27,200
$—
$—
$—
$—
$—
$—
$17,200
$10,000
$27,200
The fair value of the Redeemable Noncontrolling Interest in Middlebury Joint Venture was
measured in accordance with ASC 480, Distinguishing Liabilities from Equity, and was based upon a
valuation from a third party valuation firm. In determining the fair value, the valuation incorporated a
number of assumptions and estimates including an income-based valuation approach. As of June 30,
2012 the fair value was estimated at $17.2 million.
The fair value of the investment in Web International Educational Group (‘‘Web’’) as of June 30,
2012 was estimated to be $10.0 million. The fair value was measured based on the initial cost of the
investment and Web’s financial performance since the initial investment; there was no underlying
change in its estimated market value.
Retrospective Implementation of New Accounting Standards
The consolidated financial statements and footnotes reflect adjustments required for the
retrospective application of a new accounting pronouncement that became effective for the Company
on July 1, 2009. ASC Section 810-10-65, Noncontrolling Interests in Consolidated Financial Statements, an
amendment of ARB No. 51, requires reclassification of the Company’s minority interest to
noncontrolling interest component of total equity and that the noncontrolling interest in the Company’s
operating results be presented as an allocation of the Company’s operating results.
94
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
3. Summary of Significant Accounting Policies (Continued)
Recent Accounting Pronouncements
In June 2011, the FASB issued ASU 2011-05, Presentation of Comprehensive Income, which
provides authoritative guidance on disclosure requirements for comprehensive income. This accounting
update eliminated the option to present the components of other comprehensive income as part of the
statement of shareholders’ equity. Instead, the Company must report comprehensive income in either a
single continuous statement of comprehensive income which contains two sections, net income and
other comprehensive income, or in two separate but consecutive statements. This guidance became
effective for the Company beginning on July 1, 2012. The Company does not expect the guidance to
impact its financial condition and results of operations, as it only requires a change in the format of
presentation.
In September 2011, the FASB issued ASU 2011-08, Testing Goodwill for Impairment, which provides
authoritative guidance to simplify how entities, both public and nonpublic, test goodwill for impairment.
This accounting update permits an entity to first assess qualitative factors to determine whether it is
more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for
determining whether it is necessary to perform the goodwill impairment test. The Company early
adopted the provisions of ASU 2011-08 during May 2012 when annual goodwill impairment testing was
performed. The adoption of this standard did not have a material impact on its financial condition,
results of operations and disclosures.
In July 2012, the FASB issued ASU 2012-02, Intangibles—Goodwill and Other (Topic 350): Testing
Indefinite-Lived Intangible Assets for Impairment, which provides authoritative guidance on application of
the impairment model for indefinite-lived intangible assets. This accounting updated permits an entity
to assess qualitative factors to determine whether the existence of events and circumstances indicates
that it is more likely than not that indefinite-lived intangible assets are impaired as part of its annual
assessment. This guidance becomes effective for the Company beginning on July 1, 2012. The Company
does not expect the guidance to impact its consolidated financial statements.
4. Property and Equipment and Capitalized Software Development
Property and equipment consist of the following at:
June 30,
2012
2011
Student computers . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Computer software . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Computer hardware . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Leasehold improvements . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Office equipment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Furniture and fixtures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Web site development costs . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 81,925
22,869
14,607
8,476
3,454
4,312
1,115
$ 61,185
24,427
14,063
5,948
3,314
2,138
1,115
Less accumulated depreciation and amortization . . . . . . . . . . .
136,758
(80,855)
112,190
(65,565)
$ 55,903
$ 46,625
95
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
4. Property and Equipment and Capitalized Software Development (Continued)
The Company recorded depreciation expense related to property and equipment reflected in
selling, administrative and other operating expenses of $9.6 million, $4.9 million and $3.7 million during
the years ended June 30, 2012, 2011 and 2010, respectively. Depreciation expense of $17.7 million,
$13.9 million and $12.3 million related primarily to computers leased to students reflected in
instructional costs and services was recorded during the years ended June 30, 2012, 2011 and 2010,
respectively. Amortization expense of $2.0 million, $1.7 million and $0 million related to student
software costs reflected in instructional costs and services was recorded by the Company during the
years ended June 30, 2012, 2011 and 2010, respectively.
In the course of its normal operations, the Company incurs maintenance and repair expenses.
Those are expensed as incurred and amounted to $5.6 million, $2.9 million and $1.2 million for the
years ended June 30, 2012, 2011 and 2010, respectively.
Capitalized software consists of the following at:
Capitalized software costs . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Less accumulated depreciation and amortization . . . . . . . . . . .
$ 64,129
(29,420)
$ 42,131
(17,745)
$ 34,709
$ 24,386
June 30,
2012
2011
The Company recorded amortization expense of $9.6 million, $7.0 million and $2.7 million related
to capitalized software development reflected in instructional costs and services during the years ended
June 30, 2012, 2011 and 2010, respectively. Amortization expense of $2.0 million, $1.3 million and
$1.1 million related to capitalized software development reflected in product development expenses was
recorded during the years ended June 30, 2012, 2011 and 2010, respectively. The Company recorded
amortization of capitalized software development costs reflected in selling, administrative and other
operating expenses of $1.0 million, $0.6 million and $0.1 million during the years ended June 30, 2012,
2011 and 2010, respectively.
5. Income Taxes
The provision for income taxes is based on earnings reported in the consolidated financial
statements. A deferred income tax asset or liability is determined by applying currently enacted tax laws
and rates to the expected reversal of the cumulative temporary differences between the carrying value
of assets and liabilities for financial statement and income tax purposes. Deferred income tax expense
or benefit is measured by the change in the deferred income tax asset or liability during the year.
96
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
5. Income Taxes (Continued)
Deferred tax assets and liabilities result primarily from temporary differences in book versus tax
basis accounting. Deferred tax assets and liabilities consist of the following:
Deferred tax assets (liabilities):
Net operating loss carryforward . . . . . . . . . . . . . . . . . . . . . . .
Accrued expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Stock compensation expense . . . . . . . . . . . . . . . . . . . . . . . . . .
Reserves . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Federal tax credits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Tax basis intangibles . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred rent
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred revenue . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Charitable contributions carryforward . . . . . . . . . . . . . . . . . . .
Year Ended June 30,
2012
2011
$ 14,963
6,676
7,285
3,300
3,319
1,962
724
1,404
109
—
$ 18,607
5,861
4,927
3,101
2,558
1,805
794
873
552
2
Total deferred tax assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
39,742
39,080
Deferred tax liabilities:
Capitalized software and website development costs . . . . . . . . .
Purchased intangibles . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Property and equipment . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Capitalized curriculum development . . . . . . . . . . . . . . . . . . . .
Returned materials . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Investment in Middlebury Interactive Languages . . . . . . . . . . .
(12,707)
(8,793)
(13,180)
(13,793)
(4,623)
(1,031)
(9,249)
(9,751)
(5,401)
(11,836)
(3,338)
(1,018)
Total deferred tax liabilities . . . . . . . . . . . . . . . . . . . . . . . . . .
(54,127)
(40,593)
Deferred tax (liability) asset . . . . . . . . . . . . . . . . . . . . . . . . . .
Valuation allowance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
(14,385)
(1,066)
(1,513)
(916)
Net deferred tax (liability) asset . . . . . . . . . . . . . . . . . . . . . . .
$(15,451) $ (2,429)
Reported as:
Current deferred tax assets . . . . . . . . . . . . . . . . . . . . . . . . .
Noncurrent deferred tax (liability) . . . . . . . . . . . . . . . . . . . .
$ 16,140
(31,591)
$ 7,175
(9,604)
Net deferred tax (liability) asset . . . . . . . . . . . . . . . . . . . . . . .
$(15,451) $ (2,429)
The Company maintains a valuation allowance on net deferred tax assets of $1.1 million and
$0.9 million as of June 30, 2012 and 2011, respectively, related to state and foreign income tax net
operating losses (‘‘NOL’’) as the Company believes it is more likely than not that it will not be able to
utilize these deferred tax assets. The Company has not provided for U.S. deferred income taxes on
undistributed foreign earnings because such earnings are considered to be permanently reinvested.
Undistributed earnings of certain consolidated foreign subsidiaries at June 30, 2012 amounted to
$4.1 million. If such earnings were not permanently reinvested, a U.S. deferred income tax liability of
approximately $1.3 million would have been required.
97
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
5. Income Taxes (Continued)
Under the provision of ASC 718, Compensation—Stock Compensation, the amount of the NOL
carryforward related to stock-based compensation expense is not recognized until the stock-based
compensation tax deductions reduce taxes payable. Accordingly, the NOLs reported in gross deferred
tax assets do not include the component of the NOL related to excess tax deductions over book
compensation cost related to stock-based compensation. The net increase/(decrease) from the excess
tax benefits from the stock-based compensation of $(3.1) million, $4.9 million, and $3.9 million was
recorded to capital in excess of par value for years ended June 30, 2012, 2011 and 2010, respectively.
At June 30, 2012, the Company had available federal NOL carryforwards of $61.2 million, of which
$23.5 million was attributable to stock option deductions for which no deferred tax asset was recorded.
These NOLs expire between 2021 and 2031 if unused.
At June 30, 2012 and 2011, the Company had available Research and Development Credits of
$3.6 million and $3.3 million that will expire between 2021 and 2032 if unused. As of June 30, 2012, the
Company has available alternative minimum tax (‘‘AMT’’) credits of $0.3 million that do not expire.
For the years ended June 30, 2012 and 2011, the Company has evaluated whether a change in the
Company’s ownership of outstanding classes of stock as defined in Internal Revenue Code Section 382
could prohibit or limit the Company’s ability to utilize its NOLs. As a result of this study, the Company
has concluded it is more likely than not that the Company will be able to fully utilize its NOLs subject
to the Section 382 limitation.
The related components of the income tax expense for the years ended June 30, 2012, 2011 and
2010 were as follows:
Year Ended June 30,
2012
2011
2010
Current:
Federal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
State . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Foreign . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$
Total current . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Deferred:
Federal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
State . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Foreign . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
154
1,358
73
1,585
8,891
1,219
187
Total deferred . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
10,297
$ 3,935
1,267
170
$ 3,540
1,629
—
5,372
5,169
5,539
431
—
5,970
7,610
470
—
8,080
$11,882
$11,342
$13,249
98
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
5. Income Taxes (Continued)
The provision for income taxes can be reconciled to the income tax that would result from
applying the statutory rate to the net income before income taxes as follows:
Year Ended June 30,
2012
2011
2010
U.S. federal tax at statutory rates . . . . . . . . . . . . . . . . . . . . .
35.0% 35.0% 35.0%
Permanent items . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
1.6
1.4
3.6
Lobbying . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
2.4
4.4
6.6
. . . . . . . . . . . . . . . . . . . . .
State taxes, net of federal benefit
5.9
Transaction costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . —
(2.5)
(1.0)
Research and development tax credits . . . . . . . . . . . . . . . . . .
(0.8)
(2.7)
Effects of foreign operations . . . . . . . . . . . . . . . . . . . . . . . . .
1.7
1.8
Noncontrolling interests . . . . . . . . . . . . . . . . . . . . . . . . . . . .
0.4
(1.1)
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
0.2
3.1
4.0
—
(4.3)
0.2
0.7
(0.1)
Provision for income taxes . . . . . . . . . . . . . . . . . . . . . . . . . .
42.4% 49.3% 38.8%
The effective income tax rates during the years ended June 30, 2012, 2011 and 2010 were 42.4%,
49.3%, and 38.8%, respectively. The primary causes of the changes in the effective rates were
nondeductible transaction costs in the year ended June 30, 2011 and a cumulative benefit for research
tax credits generated since 2001 recorded in the year ended June 30, 2010. In addition, an increase in
pretax income in lower tax foreign jurisdictions reduced the effective rate in the current year more so
than in previous years.
Tax Uncertainties
Effective July 1, 2007, the Company adopted the provisions of ASC 740-10 which applies to all tax
position related to income taxes. ASC 740-10 provides a comprehensive model for how a company
should recognize, measure, present and disclose in its financial statements uncertain tax positions that
the company has taken or expects to take on a tax return. ASC 740-10 clarifies accounting for income
taxes by prescribing a minimum probability threshold that a tax position must meet before a financial
statement benefit is recognized. If the probability for sustaining a tax position is greater than 50%, then
the tax position is warranted and recognition should be at the highest amount which would be expected
to be realized upon ultimate settlement.
The Company recognizes interest and penalties, if any, related to unrecognized tax benefits in
income tax expense. At June 30, 2012, 2011 and 2010, the company had no interest or penalties
accrued.
99
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
5. Income Taxes (Continued)
During the fiscal year ended June 30, 2010, the Company adjusted its research and development
credit carryforward on its June 30, 2009 return to claim the correct current and prior credits. At that
time, the Company established an ASC 740-10 reserve related to the research and development credits.
Year Ended
June 30,
2012
2011
2010
Balance at beginning of the year . . . . . . . . . . . . . . . . . . . . . . .
Additions for prior year tax positions . . . . . . . . . . . . . . . . . . .
Additions for current year tax positions . . . . . . . . . . . . . . . . . .
$817
$261
— 365
191
89
Balance at end of the year . . . . . . . . . . . . . . . . . . . . . . . . . . .
$906
$817
$ —
221
40
$261
The Company or one of its subsidiaries files income tax returns in the U.S. federal, foreign and
various states jurisdictions. Given the federal and certain state net operating losses generated in prior
years, the statute of limitations for all tax years beginning with the period ended December 31, 2000
are still open. The statute of limitations for certain states for certain subsidiaries that have generated
income may only extend back to 2008. The returns of the foreign subsidiaries are open to examination
for the periods dating back to 2008.
If recognized, $0.8 million of the $0.9 million balance of unrecognized tax benefits would affect the
effective tax rate. It is reasonably expected that unrecognized tax benefits related to income tax issues
will not change by a significant amount over the next twelve months.
6. Lease Commitments and Notes Payable
Capital leases
As of June 30, 2012 and 2011, computer equipment under capital leases were recorded at a cost of
$81.9 million and $61.2 million, respectively and accumulated depreciation of $54.4 million and
$43.7 million, respectively. Borrowings under lease lines had interest rates ranging from 2.62% to
6.24% and included a 36-month payment term with a $1 purchase option at the end of the term. The
Company has pledged the assets financed to secure the amounts outstanding under the capital leases.
The computer equipment lease line is subject to cross default compliance provisions in the Company’s
existing line of credit agreement (see Note 7).
The Company incurs capital lease obligations under a lease line of credit with PNC Equipment
Finance, LLC with annual borrowing limits. Capital lease borrowings are repaid over three years
following the incurrence of a lease. During the fiscal year ended June 30, 2012, the Company increased
availability under the lease line of credit to $27.5 million, which was fully utilized to acquire student
computers and related hardware. In July 2012, the Company entered into a $35 million lease line of
credit of credit for student computer purchases during fiscal 2013. This borrowing availability expires in
August 2013 and interest rates on the new borrowings are based upon an initial rate of 2.91% modified
by changes in the three year interest rate swaps rate as published in the Federal Reserve Statistical
Release H.15, ‘‘Selected Interest Rates.’’
100
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
6. Lease Commitments and Notes Payable (Continued)
Notes payable
The Company has purchased computer software licenses and maintenance services through an
unsecured notes payable at an interest rate of 3.4% and a payment term of three years. There are no
covenants associated with this notes payable.
The following is a summary as of June 30, 2012 of the present value of the net minimum lease
payments on capital leases and notes payable under the Company’s commitments:
($ in thousands)
2013 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
2014 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
2015 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
2016 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Total minimum lease payments . . . . . . . . . . . . . . . . .
Less amount representing interest (imputed weighted
average interest rate of 3.4%) . . . . . . . . . . . . . . . .
Capital
Leases
$ 16,625
11,266
4,163
3
Notes
Payable
$ 1,178
785
—
—
Total
$ 17,803
12,051
4,163
3
32,057
1,963
34,020
(983)
(41)
(1,024)
Net minimum lease payments . . . . . . . . . . . . . . . . . .
Less current portion . . . . . . . . . . . . . . . . . . . . . . . .
31,074
(15,950)
1,922
(1,145)
32,996
(17,095)
Present value of net minimum payments, less current
portion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 15,124
$
777
$ 15,901
Operating leases
The Company has fixed non-cancelable operating leases with terms expiring through 2022 for
office space leases. Office leases generally contain renewal options and certain leases provide for
scheduled rate increases over the lease terms.
In August 2010, the Company amended its operating lease for non-owned facilities whereby the
Company agreed to consolidate various operating leases and subleases into a single lease and extended
the term of the lease until May 2022. Rent expense was $7.8 million, $6.5 million and $4.0 million for
the years ended June 30, 2012, 2011 and 2010, respectively.
Future minimum lease payments under noncancelable operating leases with initial terms of one
year or more are as follows:
($ in thousands)
2013 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
2014 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
2015 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
2016 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
2017 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Thereafter . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Year Ending
June 30,
$ 5,814
6,382
6,492
6,213
6,016
30,599
Total future minimum lease payments . . . . . . . . . . . . . . . . . . . . . . . . . .
$61,516
101
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
7. Line of Credit
The Company has a $35 million revolving credit agreement with PNC Bank, N.A. (the ‘‘Credit
Agreement’’) that expires in December 2012 for general corporate operating purposes. Borrowings
under the Credit Agreement bear interest based upon the term of the borrowings. Interest is charged,
at the Company’s option, either at: (i) the higher of (a) the rate of interest announced by PNC Bank,
N.A. from time to time as its ‘‘prime rate’’ and (b) the federal funds rate plus 0.5%; or (ii) the
applicable London Interbank Offered Rate (‘‘LIBOR’’) divided by a number equal to 1.00 minus the
maximum aggregate reserve requirement which is imposed on member banks of the Federal Reserve
System against ‘‘eurocurrency liabilities’’ plus the applicable margin for such loans, which ranges
between 1.50% and 2.00%, based on the leverage ratio (as defined in the Credit Agreement). The
Company pays a quarterly commitment fee on the unused portion of the credit agreement. The line of
credit includes a $5.0 million letter of credit facility. Issuances of letters of credit reduce the availability
of permitted borrowings under the Credit Agreement.
Borrowings under the Credit Agreement are secured by substantially all of the Company’s assets.
The Credit Agreement contains a number of financial and other covenants that, among other things,
restrict the Company’s and its subsidiaries’ abilities to incur additional indebtedness, grant liens or
other security interests, make certain investments, become liable for contingent liabilities, make
specified restricted payments including dividends, dispose of assets or stock, including the stock of its
subsidiaries, or make capital expenditures above specified limits and engage in other matters
customarily restricted in senior secured credit facilities. The Company must also maintain a maximum
debt leverage ratio. These covenants are subject to certain qualifications and exceptions. Through
June 30, 2012, the Company was in compliance with these covenants. As of June 30, 2012, no
borrowings were outstanding on the line of credit and approximately $0.3 million was reserved for a
letter of credit. The Company currently expects to enter into a new line of credit agreement at, or prior
to, the termination of the existing line of credit.
8. Warrants
The Company issued warrants in March 2003 at a price of $8.16 per share in conjunction with
promissory notes issued by the Company. These warrants expired in December 2009 and during the
year ended June 30, 2010, warrants were cashless exercised in exchange for 6,173 shares of common
stock.
9. Equity Transactions
Amended and Restated Certificate of Incorporation
On October 30, 2007, the Company’s Board of Directors (the ‘‘Board’’) approved an amendment
and restatement of the Company’s Second Amended and Restated Certificate of Incorporation, which
was adopted by the majority of the stockholders of the Company on October 31, 2007 (the
‘‘Certificate’’). The Certificate authorizes the Company to issue 100,000,000 shares of Common Stock
and 10,000,000 shares of Preferred Stock. No Preferred Stock was issued or outstanding as of June 30,
2012 or 2011.
Investment by Technology Crossover Ventures in K12 Inc.
In April 2011, the Company completed a private placement sale of 4 million shares of restricted
common stock at a price of $31.46 per share to Technology Crossover Ventures (‘‘TCV’’). The gross
102
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
9. Equity Transactions (Continued)
proceeds of $125.8 million were unrestricted and available for acquisitions, strategic investments and
general corporate purposes. Under the terms of the transaction, the Board appointed a director
nominated by TCV to the Board to hold office until the next annual meeting of stockholders.
Additionally, the Company granted TCV the right to participate on a pro-rata basis in any subsequent
private offerings of common stock by the Company, subject to certain exclusions such as issuances in
connection with acquisitions or employee equity plans. As provided by the terms of the transaction, the
Company filed a resale registration statement with respect to these shares with the Securities and
Exchange Commission and the registration statement was declared effective on December 28, 2011.
Series A Special Stock
The Company issued 2,750,000 shares of Series A Special stock in connection with its acquisition
of KC Distance Learning, Inc. (See note 13). The holders of the Series A Special stock have the right
to convert those shares into common stock on a one-for-one basis and for the right to vote on all
matters presented to K12 stockholders, other than for the election and removal of directors, for which
holders of the Series A Special stock have no voting rights.
10. Stock Option Plan
The Company adopted a Stock Option Plan in May 2000 (the ‘‘Option Plan’’) under which,
employees, outside directors and independent contractors could participate in the Company’s future
performance through awards of nonqualified stock options to purchase common stock. In December
2003, the total number of common stock shares reserved for grant and issuance pursuant to the Option
Plan was increased to 2,549,019 shares. In November 2007, the Company’s Board adopted the 2007
Equity Incentive Award Plan (the ‘‘2007 Plan’’) increasing the number of common stock shares
reserved for issuance to 4,213,921 shares plus increases in the shares pursuant to the ‘‘evergreen
provision’’ that may be issued under the 2007 Plan over the course of its ten-year term. Each stock
option is exercisable pursuant to the vesting schedule set forth in the stock option agreement granting
such stock option, generally over four years. No stock option shall be exercisable after the expiration of
its option term. The Company has granted stock options under the 2007 Plan and the Company has
also granted stock options to executive officers under stand-alone agreements outside the Plan. Options
granted under stand-alone agreements totaled 1,441,168 as of June 30, 2012 and June 30, 2011. There
have been no grants of nonqualified stock options to independent contractors.
Compensation expense for all equity-based compensation awards is based on the grant-date fair
value estimated in accordance with the provisions of ASC 718. The Company recognizes these
compensation costs on a straight-line basis over the requisite service period, which is generally the
vesting period of the award.
The Company uses the Black-Scholes option pricing model method to calculate the fair value of
stock options. The use of option valuation models requires the input by management of highly
subjective assumptions, including the expected stock price volatility, the expected life of the option term
and forfeiture rate. These assumptions are utilized by the Company in determining the estimated fair
value of stock options.
103
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
10. Stock Option Plan (Continued)
The fair value of the Company’s service and performance based stock options was estimated as of
the date of grant using the Black-Scholes option pricing model with the following assumptions:
Year Ended June 30,
2012
2011
2010
Dividend yield . . . . . . . . . . . . . . . . . . . . . . . .
Expected volatility . . . . . . . . . . . . . . . . . . . . . .
Risk-free interest rate . . . . . . . . . . . . . . . . . . .
Expected life of the option term (in years) . . . .
Forfeiture rate . . . . . . . . . . . . . . . . . . . . . . . .
0.00%
48% to 55%
0.00%
48%
0.68% to 0.96% 1.25% to 2.37% 2.04% to 2.43%
5.11
20% to 30%
5.11 to 5.25
10% to 27%
5.11
20% to 30%
0.00%
51%
The fair value of the options granted for the years ended June 30, 2012, 2011 and 2010 was
$4.6 million, $1.1 million and $6.5 million, respectively. This amount will be expensed over the required
service period.
Dividend yield—The Company has never declared or paid dividends on its common stock and has
no plans to do so in the foreseeable future.
Expected volatility—Volatility is a measure of the amount by which a financial variable such as a
share price has fluctuated (historical volatility) or is expected to fluctuate (expected volatility) during a
period. Since the Company’s common shares have been publicly traded for less than five years and
therefore does not have sufficient historical data, the basis for the standard option volatility calculation
is derived from known publicly traded comparable companies. The annual volatility for these companies
is derived from their historical stock price data. Beginning in 2013, the Company expects to have
sufficient historical data to use its own volatility rather than utilizing a peer group volatility.
Risk-free interest rate—The assumed risk free rate used is a zero coupon U.S. Treasury security with
a maturity that approximates the expected term of the option.
Expected life of the option term—The period of time that the options granted are expected to
remain unexercised. Options granted during the year have a maximum term of eight years. The
Company estimates the expected life of the option term based on an average life between the dates
that options become fully vested and the maximum life of options granted.
Forfeiture rate—The estimated percentage of options granted that are expected to be forfeited or
canceled before becoming fully vested. The Company uses a forfeiture rate based on historical
forfeitures of different classification levels of employees in the Company.
104
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
10. Stock Option Plan (Continued)
Stock option activity including stand-alone agreements during the years ended June 30, 2012, 2011
and 2010 are as follows:
Outstanding, June 30, 2009 . . . . . . . . .
Granted . . . . . . . . . . . . . . . . . . . . . . .
Exercised . . . . . . . . . . . . . . . . . . . . . .
Forfeited or canceled . . . . . . . . . . . . . .
Outstanding, June 30, 2010 . . . . . . . . .
Granted . . . . . . . . . . . . . . . . . . . . . . .
Exercised . . . . . . . . . . . . . . . . . . . . . .
Forfeited or canceled . . . . . . . . . . . . . .
Outstanding, June 30, 2011 . . . . . . . . .
Granted . . . . . . . . . . . . . . . . . . . . . . .
Exercised . . . . . . . . . . . . . . . . . . . . . .
Forfeited or canceled . . . . . . . . . . . . . .
Weighted
Average
Remaining
Contractual
Life (Years)
5.16
Aggregate
Intrinsic
Value
$28,516
5.06
24,911
4.58
$38,485
Weighted
Average
Exercise
Price
$14.59
18.85
9.07
17.21
$16.81
30.65
11.79
21.46
$19.23
25.22
15.08
23.34
Shares
4,094,208
950,700
(936,195)
(194,866)
3,913,847
119,000
(1,131,747)
(135,371)
2,765,729
489,486
(217,956)
(87,319)
Outstanding, June 30, 2012 . . . . . . . . .
2,949,940
$20.41
4.21
$36,916
Stock options exercisable at June 30,
2012 . . . . . . . . . . . . . . . . . . . . . . . .
2,044,791
$19.28
3.26
$27,347
Stock options outstanding at June 30, 2012 included 662,692 options related to performance or
market based options. During the year ended June 30, 2012, performance or market based options
vested were 44,118. No performance or market based options were forfeited during the year ended
June 30, 2012. Stock options exercisable at June 30, 2012 included 553,921 stock options related to
performance based options. Vesting of performance based options is contingent on meeting various
company-wide performance goals.
The aggregate intrinsic value in the table above represents the total pre-tax intrinsic value (the
difference between the Company’s closing stock price on the last day of the year and the exercise price,
multiplied by the number of in-the-money options) that would have been received by the option
holders had all option holders exercised their options on June 30, 2012. The amount of aggregate
intrinsic value will change based on the fair market value of the Company’s stock.
The total intrinsic value of options exercised for the years ended June 30, 2012, 2011 and 2010 was
$3.6 million, $22.2 million and $10.7 million, respectively.
As of June 30, 2012, there was $7.2 million of total unrecognized compensation expense related to
unvested stock options granted under the Stock Option Plans adopted in May 2000 and November
2007. The cost is expected to be recognized over a weighted average period of 2.69 years. During the
years ended June 30, 2012, 2011 and 2010, the Company recognized $4.5 million, $5.2 million and
$5.2 million of stock based compensation expense. The total income tax (expense)/benefit recognized in
105
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
10. Stock Option Plan (Continued)
the consolidated statements of operations related to stock options exercised during the years ended
June 30, 2012, 2011 and 2010 was $(3.1) million, $5.0 million and $3.9 million, respectively.
Restricted Stock Awards
In July 2009, the Company approved grants of restricted stock awards (‘‘RSA’’) pursuant to the
2007 Plan. Under the Plan, employees, outside directors and independent contractors are able to
participate in the Company’s future performance through the awards of restricted stock. Each RSA
vests pursuant to the vesting schedule set forth in the restricted stock agreement granting such RSA’s,
generally over three years. Under the 2007 Plan, there have been no awards of restricted stock to
independent contractors.
Restricted stock award activity during the years ended June 30, 2012 and 2011 was as follows:
Weighted-
Average
Exercise
Price
Shares
Outstanding, June 30, 2009 . . . . . . . . . . . . . . . . . . . . . . . . . . .
Granted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Vested . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Canceled . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
— $ —
$18.29
$17.46
$17.46
225,946
(16,007)
(22,089)
Outstanding, June 30, 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . .
Granted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Exercised . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Canceled . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Outstanding, June 30, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . .
Granted . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Exercised . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Canceled . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
187,850
451,143
(154,224)
(40,618)
444,151
398,940
(199,043)
(52,411)
$18.46
$25.19
$22.08
$23.03
$23.62
$26.19
$23.46
$26.86
Outstanding, June 30, 2012 . . . . . . . . . . . . . . . . . . . . . . . . . . .
591,637
$25.12
During the year ended June 30, 2012, no new performance based restricted stock awards were
granted and 45,000 were outstanding at June 30, 2012. Vesting of the performance-based restricted
stock awards is contingent on certain financial performance goals.
The fair value of restricted stock awards granted for the year ended June 30, 2012 was
$8.1 million. As of June 30, 2012, there was $9.1 million of total unrecognized compensation expense
related to unvested restricted stock awards granted. The cost is expected to be recognized over a
weighted average period of 1.99 years. The total fair value of shares vested during the year ended
June 30, 2012 was $4.1 million. During the years ended June 30, 2012, 2011 and 2010, the Company
recognized $5.6 million, $4.3 million and $0.7 million, respectively, of stock-based compensation
expense related to restricted stock awards.
106
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
11. Redeemable Noncontrolling Interest
In May 2010, the Company entered into an agreement to establish a venture with Middlebury
College (‘‘Middlebury’’) to form Middlebury Interactive Languages LLC (‘‘MIL’’). The venture creates
and distributes innovative, high-quality online language courses under the trademark Middlebury and
other marks. At any time after the fifth (5th) anniversary of forming the venture, Middlebury may give
written notice of its irrevocable election to sell all (but not less than all) of its membership interest to
the Company (put right). The purchase price for Middlebury’s Membership Interest shall be its fair
market value and the Company may, in its sole discretion, pay the purchase price in cash or shares of
the Company’s common stock. The agreement also includes a provision whereby, if certain milestones
are not met related to expanding the business by June 2014, Middlebury will have the option to
repurchase certain contributed assets at their fair market value.
Given the provision of the put right, the noncontrolling interest is redeemable outside of the
Company’s control and it is recorded outside of permanent equity at its redemption value fair value in
accordance with EITF Topic D-98, Classification and Measurement of Redeemable Securities. The
Company will adjust the redeemable noncontrolling interest to redemption value on each balance sheet
date with changes in redemption value recognized as an adjustment to retained earnings, or in the
absence of retained earnings, by adjustment to additional paid-in-capital.
The following is a summary of the activity of the redeemable noncontrolling interest for the years
ended June 30, 2012 and 2011:
Balance of redeemable noncontrolling interest at June 30, 2010 . . . . . . . . .
Net loss . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Adjustment to redemption value . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Balance of redeemable noncontrolling interest at June 30, 2011 . . . . . . . . .
Net loss . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Adjustment to redemption value . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Value
$17,374
(1,112)
938
17,200
(1,462)
1,462
Balance of redeemable noncontrolling interest at June 30, 2012 . . . . . . . . .
$17,200
12. Commitments and Contingencies
Litigation
In the ordinary conduct of business, the Company is subject to lawsuits, arbitrations and
administrative proceedings from time to time. The Company expenses legal costs as incurred.
IpLearn
On October 26, 2011, IpLearn, LLC (‘‘IpLearn’’) filed a complaint for patent infringement against
the Company in the United States District Court for the District of Delaware, IpLearn, LLC v. K12 Inc.,
Case No. 1:11-1026-LPS, which it subsequently amended on November 18, 2011. IpLearn is a
privately-held technology development and licensing company for web and computer-based learning
technologies. In its complaint, IpLearn alleges that the Company has infringed three of its patents for
various computer-aided learning methods and systems. On July 2, 2012, the Court granted the Company’s
107
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
12. Commitments and Contingencies (Continued)
motion to dismiss IpLearn’s allegations of indirect patent infringement and allowed IpLearn’s allegations
of direct patent infringement to proceed. The discovery process is currently in progress.
Hoppaugh Complaint
On January 30, 2012, a securities class-action lawsuit captioned Hoppaugh v. K12 Inc., was filed
against the Company and two of its officers in the United States District Court for the Eastern District
of Virginia, Hoppaugh v. K12. Inc., Case No. 1: 12-CV-00103-CMH-IDD. The plaintiff purports to
represent a class of persons who purchased or otherwise acquired K12 common stock between
September 9, 2009 and December 16, 2011, inclusive, and alleges violations by the defendants of
Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder. The plaintiff
alleges, among other things, that the defendants made false or misleading statements of material fact,
or failed to disclose material facts, about (i) the Company’s financial results during the class period,
(ii) the academic performance of the virtual schools served by the Company, and (iii) certain school
administrative practices and sales strategies related to enrollments. On May 18, 2012, the Court
appointed the Arkansas Teacher Retirement System as lead plaintiff, and it filed an amended class
action complaint (the ‘‘Amended Complaint’’) on June 22, 2012. The plaintiff seeks unspecified
compensatory damages and other relief. The Company intends to defend vigorously against the claims
asserted in the Amended Complaint, and filed a motion to dismiss on July 20, 2012. In addition to the
above described stockholder class action, on March 21, 2012, a federal stockholder derivative action,
Jared Staal v. Tisch. et. al., Case No. 1: 12-CV-00365-SLR, putatively initiated on behalf of the
Company, was filed in the United States District Court for the District of Delaware. By stipulation, all
matters in this derivative action have been stayed until the motions to dismiss the Amended Complaint
are decided. The Board of Directors received a shareholder demand letter, dated August 16, 2012, that
asserted allegations against various directors, senior officers and employees of K12 similar to those
made in the previously disclosed securities class action and derivative lawsuits. The shareholder
requested that the Board investigate and pursue claims related to breach of fiduciary duty on behalf of
the Company. The Board will consider the demand and take appropriate action.
Employment Agreements
The Company has entered into employment agreements with certain executive officers that provide
for severance payments and, in some cases other benefits, upon certain terminations of employment.
Except for the agreement with its CEO that has a three year term, all other agreements provide for
employment on an ‘‘at-will’’ basis. If the employee is terminated for ‘‘good reason’’ or without cause,
the employee is entitled to salary continuation, and in some cases benefit continuation, for varying
periods depending on the agreement.
13. Acquisitions and Investments
KC Distance Learning, Inc.
On July 23, 2010 the Company acquired all of the stock of KCDL, a provider of online curriculum
and public and private virtual education, by issuing to its parent company, KCDL Holdings LLC,
2,750,000 shares of a new class of stock designated as Series A Special Stock, which had a value at
closing of $63.1 million. KCDL Holdings, Inc. is an affiliate of Learning Group, LLC, a related party.
The KCDL businesses include: Aventa Learning (online curriculum and instruction), the iQ Academies
108
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
13. Acquisitions and Investments (Continued)
(statewide virtual public charter schools for middle and high school); and The Keystone School
(international online private school). The following unaudited pro forma combined results of operations
give effect to the acquisition of KCDL as if it had occurred at the beginning of the periods presented.
The unaudited pro forma combined results of operations are provided for informational purposes only
and do not purport to represent actual consolidated results of operations had the acquisition occurred
on the dates assumed, nor are these financial statements necessarily indicative of future consolidated
results of operations. The Company expects to incur costs and realize benefits associated with
integrating the operations of KCDL. The unaudited pro forma combined results of operations do not
reflect the costs of any integration activities or any benefits that may result from operating efficiencies
or revenue synergies. Pro forma results include non-recurring transaction costs of $1.9 million.
Pro forma Results of Operations (unaudited, in thousands)
Year ended June 30,
2011
2010
Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Net Income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$523,755
$ 10,839
$421,119
$ 18,082
The American Education Corporation
In December 2010, the Company acquired the stock of The American Education Corporation
(AEC) for a total cash purchase price of $35.2 million, including certain amounts held in escrow (which
the Company received back) of $6.8 million and cash of $3.7 million, resulting in a net purchase price
of approximately $24.5 million. AEC is a leading provider of research-based core curriculum
instructional software for kindergarten through adult learners. The acquisition increased the Company’s
portfolio of innovative, high quality instruction and curriculum used by school districts all over the
country. The acquisition of AEC has been included in the Company’s results since the acquisition date
of December 1, 2010. The AEC acquisition had an immaterial proforma impact on 2011 and 2010
results. The allocation of the purchase price to the identifiable tangible and intangible assets and
liabilities assumed under the purchase method of accounting was finalized during the third quarter of
2012.
Investment in Web International Education Group, Ltd.
In January 2011, the Company invested $10 million to obtain a 20% minority interest in Web
International Education Group, Ltd. (Web), a provider of English language learning centers in cities
throughout China. The Company’s option to purchase no less than 51% of Web was extended to
December 31, 2012 (from July 1, 2012) and the Company has the option to purchase all remaining
equity interest of Web between July 1, 2013 and June 30, 2015. The Company recorded its investment
in Web as an available for sale debt security because of the ability to put the investment to other Web
shareholders in return for the original $10 million investment plus interest. There has been no change
to the fair value of the Web investment based on Web’s financial performance since the initial
investment and Web’s ability to repay the investment plus interest with cash.
International School of Berne
On April 1, 2011, the Company finalized its acquisition of the operations and substantially all
assets of the International School of Berne (IS Berne) for 2 million Swiss francs ($2.2 million).
109
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
13. Acquisitions and Investments (Continued)
IS Berne is a traditional school located in Berne, Switzerland serving students in grades Pre-K through
12. IS Berne is an International Baccalaureate school in its 50th year of operation. The Company
purchased the right to operate IS Berne and substantially all of its assets excluding real estate. Slightly
more than half of the purchase price was allocated to goodwill and the purchase price allocation was
finalized during the fourth quarter of 2012. The results of operations of IS Berne have been included
since the date of acquisition. The IS Berne acquisition had an immaterial proforma impact on 2011 and
2010 results.
Acquisition of Assets from Kaplan Virtual Education and Insight Schools, Inc.
On July 1, 2011, the Company acquired certain assets of Kaplan Virtual Education (Kaplan/Insight
Assets) for $12.6 million. The Kaplan/Insight Assets included contracts to serve nine virtual charter
schools throughout the United States that have been integrated into the Company’s existing operations.
The acquisition of the Kaplan/Insight assets had an immaterial proforma impact on 2011 results. The
majority of the purchase price has been allocated to goodwill and intangible assets for $5.8 million and
$4.3 million, respectively. The purchase price allocation remains preliminary as of June 30, 2012.
14. Related Party Transactions
For the years ended June 30, 2012 and 2011, the Company purchased services and assets in the
amount of $0.6 million and $1.3 million from Knowledge Universe Technologies (KUT) pursuant to a
Transition Services Agreement related to the Company’s acquisition of KCDL. KUT is an affiliate of
Learning Group, LLC, a related party. Additionally, KCDL has capital leases with an outstanding
balance due to KCDL Holdings, Inc. of $0.1 million as of June 30, 2012 and $0.5 million as of June 30,
2011.
During 2012, in accordance with the original terms of the joint venture agreement, the Company
loaned $3.0 million to its 60% owned joint venture, Middlebury Interactive Language. The loan is
repayable under terms and conditions specified in the loan agreement. The loan balance and related
interest are eliminated since Middlebury Interactive Language is consolidated in the Company’s
financial statements; however, repayment of the loan is dependent on the continued liquidity of
Middlebury Interactive Language.
15. Employee Benefits
The Company maintains a 401(k) Salary Deferral Plan (the 401(k) Plan) for its employees.
Employees at least 18 years of age who have been employed for at least 30 days may voluntarily
contribute up to 15% of their compensation to the Plan on a pretax basis. The 401(k) Plan provides for
a matching Company contribution of 25% of the first 4% of each participant’s compensation, which
begins following six months of service with full vesting after three years of service. The Company
expensed $0.6 million, $0.4 million and $0.4 million during each of the years ended June 30, 2012, 2011
and 2010, respectively under the 401(k) plan.
110
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
16. Supplemental Disclosure of Cash Flow Information
Cash paid for interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cash paid for taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Year Ended June 30,
2012
2011
2010
$
$
981
294
$ 1,216
$ 1,282
$ 4,616
$
872
Supplemental disclosure of non-cash investing and financing activities:
Property and equipment financed by capital lease obligations
. . . . . . . .
$27,209
$ 15,645
$12,194
Property and equipment financed by notes payable . . . . . . . . . . . . . . . .
$ — $ 1,872
$ —
Cash receipts in transit from exercise of stock options . . . . . . . . . . . . . .
$ — $
87
$ —
Net working capital contributed to Middlebury Interactive Languages
venture . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ — $
— $ 3,374
Intangible assets contributed to Middlebury Interactive Languages
venture . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ — $
— $14,000
Purchase of perpetual license agreement/accrued liabilities . . . . . . . . . .
$ — $
— $
250
Business Combinations
—Current Assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 1,043
$ 13,396
$ —
—Property, equipment and software development costs . . . . . . . . . . .
$ 1,941
$ 12,938
$ —
—Capitalized curriculum development costs . . . . . . . . . . . . . . . . . . .
$ 1,000
$ 8,073
$ —
—Intangible assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 3,115
$ 27,310
$ —
—Goodwill . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ 5,992
$ 53,789
$ —
—Other non-current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ — $
198
$ —
—Deferred tax liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ — $ (6,989) $ —
—Assumed liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ — $(12,229) $ —
—Deferred revenue . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ (405) $ (5,554) $ —
—Other non-current liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ — $
(738) $ —
—Contingent consideration . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
$ — $ (1,700) $ —
—Issuance of Series A Special Stock . . . . . . . . . . . . . . . . . . . . . . . .
$ — $(63,112) $ —
17. Quarterly Results of Operations (Unaudited)
The unaudited consolidated interim financial information presented should be read in conjunction
with other information included in the Company’s consolidated financial statements. The following
unaudited consolidated financial information reflects all adjustments necessary for the fair presentation
111
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
17. Quarterly Results of Operations (Unaudited) (Continued)
of the results of interim periods. The following tables set forth selected unaudited quarterly financial
information for each of the Company’s last eight quarters.
2012
(In thousands)
Jun 30,
2012
Mar 31,
2012
Dec 31,
2011
Sep 30,
2011
Consolidated Quarterly Statements of Income
Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cost and expenses
Instructional costs and services . . . . . . . . . . . .
Selling, administrative and other operating
expenses
. . . . . . . . . . . . . . . . . . . . . . . . . .
Product development expenses . . . . . . . . . . . .
$
170,402
$
178,175
$
166,500
$
193,330
102,588
105,955
100,877
107,579
60,999
4,783
53,619
7,012
50,957
7,574
71,260
6,224
Total costs and expenses . . . . . . . . . . . . . . . .
168,370
166,586
159,408
185,063
Income from operations . . . . . . . . . . . . . . . . .
. . . . . . . . . . . . . . . . . . .
Interest expense, net
Income before income taxes and
noncontrolling interest . . . . . . . . . . . . . . . .
Income tax expense . . . . . . . . . . . . . . . . . . . .
Net income before noncontrolling interest . . . .
Add net income attributable to noncontrolling
2,032
(267)
1,765
(571)
1,194
11,589
(265)
11,324
(4,638)
6,686
7,092
(236)
6,856
(2,976)
3,880
interest
. . . . . . . . . . . . . . . . . . . . . . . . . . .
607
291
285
Net income . . . . . . . . . . . . . . . . . . . . . . . . . .
$
1,801
$
6,977
$
4,165
$
8,267
(221)
8,046
(3,697)
4,349
251
4,600
Net income attributable to common
stockholders per share*:
Basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Weighted average shares used in computing
per share amounts:
$
$
0.05
0.05
$
$
0.18
0.18
$
$
0.11
0.11
$
$
0.12
0.12
Basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
35,952,162
35,876,829
35,755,685
35,629,836
Diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
35,973,316
35,913,576
35,976,779
35,954,075
112
Notes to Consolidated Financial Statements (Continued)
K12 Inc.
17. Quarterly Results of Operations (Unaudited) (Continued)
2011
(In thousands)
Jun 30,
2011
Mar 31,
2011
Dec 31,
2010
Sep 30,
2010
Consolidated Quarterly Statements of Income
Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Cost and expenses
Instructional costs and services . . . . . . . . . . . .
Selling, administrative and other operating
expenses
. . . . . . . . . . . . . . . . . . . . . . . . . .
Product development expenses . . . . . . . . . . . .
$
128,268
$
130,293
$
129,002
$
134,871
78,107
77,727
76,195
75,082
52,324
4,029
36,763
4,972
35,177
3,435
50,498
3,911
Total costs and expenses . . . . . . . . . . . . . . . .
134,460
119,462
114,807
129,491
Income (loss) from operations . . . . . . . . . . . .
. . . . . . . . . . . . . . . . . . .
Interest expense, net
Income (loss) before income taxes and
noncontrolling interest . . . . . . . . . . . . . . . .
Income tax benefit (expense) . . . . . . . . . . . . .
Net income (loss) before noncontrolling
(6,192)
(237)
(6,429)
2,968
10,831
(307)
10,524
(5,260)
interest . . . . . . . . . . . . . . . . . . . . . . . . . . .
(3,461)
5,264
Add net income attributable to noncontrolling
interest
. . . . . . . . . . . . . . . . . . . . . . . . . . .
617
335
14,195
(366)
13,829
(6,119)
7,710
129
5,380
(297)
5,083
(2,931)
2,152
46
Net income (loss) . . . . . . . . . . . . . . . . . . . . . .
$
(2,844) $
5,599
$
7,839
$
2,198
Net income (loss) attributable to common
stockholders per share*:
Basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Weighted average shares used in computing
per share amounts:
$
$
(0.08) $
(0.08) $
0.17
0.16
$
$
0.24
0.23
$
$
0.07
0.07
Basic . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
34,460,563
30,958,807
30,565,683
30,343,696
Diluted . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
34,460,563
31,758,313
31,128,286
30,805,106
* Reflects the impact of rounding.
113
SCHEDULE II
K12 INC
VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED June 30, 2012, 2011 and 2010
1.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
June 30, 2012 . . . . . . . . . . . . . . . .
June 30, 2011 . . . . . . . . . . . . . . . .
June 30, 2010 . . . . . . . . . . . . . . . .
2.
INVENTORY RESERVE
June 30, 2012 . . . . . . . . . . . . . .
June 30, 2011 . . . . . . . . . . . . . .
June 30, 2010 . . . . . . . . . . . . . .
3. COMPUTER RESERVE(1)
Balance at
Beginning of
Period
$1,777,481
$1,362,530
$1,055,261
Additions
Charged to
Cost and
Expenses
204,386
1,471,510
502,723
Deductions
from
Allowance
357,893
1,056,559
195,454
Balance at
End of
Period
$1,623,974
$1,777,481
$1,362,530
Balance at
Beginning of
Period
$2,916,659
$1,903,448
$ 884,094
Charged to
Cost and
Expenses
1,617,623
1,060,157
1,085,270
Deductions,
Shrinkage and
Obsolescence
Balance at
End of
Period
27,301
46,946
65,916
$4,506,981
$2,916,659
$1,903,448
June 30, 2012 . . . . . . . . . . . . .
June 30, 2011 . . . . . . . . . . . . .
June 30, 2010 . . . . . . . . . . . . .
Balance at
Beginning of
Period
$1,063,285
$ 843,876
$1,022,147
Additions
(Deductions)
Charged to
Cost and
Expenses
1,038,132
219,409
(178,271)
Deductions,
Shrinkage and
Obsolescence
Balance at
End of
Period
594,118
—
—
$1,507,299
$1,063,285
$ 843,876
(1) A reserve account is maintained against potential shrinkage and obsolescence for those
computers provided to the Company’s students. The reserve is calculated based upon
several factors including historical percentages, the net book value and remaining useful
life. During fiscal year 2011, certain computers were written off against the reserve.
4.
INCOME TAX VALUATION ALLOWANCE
June 30, 2012 . . . . . . . . . . . . . .
June 30, 2011 . . . . . . . . . . . . . .
June 30, 2010 . . . . . . . . . . . . . .
Balance at
Beginning of
Period
$915,945
$820,213
$746,726
Additions to
Net Deferred
Tax Assets
Allowance
Deductions in
Net Deferred
Tax Asset
Allowance
149,884
95,732
73,487
—
—
—
Balance at
End of
Period
$1,065,829
$ 915,945
$ 820,213
114
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS AND FINANCIAL
DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
As required by Rules 13a-15 and 15d-15 under the Securities Exchange Act of 1934, as
amended)(the ‘‘Exchange Act’’) management has evaluated, with the participation of our chief
executive officer and chief financial officer, the effectiveness of our disclosure controls and procedures
as of the end of the period covered by this report. Disclosure controls and procedures refer to controls
and other procedures designed to ensure that information required to be disclosed in the reports the
Company files or submits under the Exchange Act is recorded, processed, summarized and reported,
within the time periods specified in the rules and forms of the Securities and Exchange Commission.
Disclosure controls and procedures include, without limitation, controls and procedures designed to
ensure that information required to be disclosed by us in our reports that the Company files or submits
under the Exchange Act is accumulated and communicated to management, including our chief
executive officer and chief financial officer, as appropriate to allow timely decisions regarding our
required disclosure. In designing and evaluating our disclosure controls and procedures, management
recognizes that any controls and procedures, no matter how well designed and operated, can provide
only reasonable assurance of achieving the desired control objectives, and management necessarily
applies its judgment in evaluating and implementing possible controls and procedures. Based on the
evaluation of our disclosure controls and procedures as of June 30, 2012, our chief executive officer
and chief financial officer concluded that, as of such date, our disclosure controls and procedures were
effective.
Management’s Annual Report on Internal Control over Financial Reporting
Management is responsible for establishing and maintaining adequate internal control over
financial reporting.
Internal control over financial reporting refers to a process designed by, or under the supervision
of, our chief executive officer and chief financial officer and effected by our board of directors,
management and other personnel, to provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in accordance with generally
accepted accounting principles and includes those policies and procedures that:
(cid:127) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the
transactions and dispositions of our assets;
(cid:127) provide reasonable assurance that transactions are recorded as necessary to permit preparation
of financial statements in accordance with generally accepted accounting principles, and that our
receipts and expenditures are being made only in accordance with authorizations of our
management and members of our board of directors; and
(cid:127) provide reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of our assets that could have a material effect on our financial
statements.
Internal control over financial reporting cannot provide absolute assurance of achieving financial
reporting objectives because of inherent limitations. Internal control over financial reporting is a
process that involves human diligence and compliance and is subject to lapses in judgment and
breakdowns resulting from human failures. Internal control over financial reporting also can be
115
circumvented by collusion or improper override. Because of such limitations, there is a risk that
material misstatements may not be prevented or detected on a timely basis by internal control over
financial reporting. However, these inherent limitations are known features of the financial reporting
process, and it is possible to design into the process safeguards to reduce, though not eliminate, this
risk.
Management evaluated the effectiveness of our internal control over financial reporting as of
June 30, 2012 using the framework set forth in the report of the Treadway Commission’s Committee of
Sponsoring Organizations (COSO), ‘‘Internal Control—Integrated Framework.’’ As a result of
management’s evaluation of our internal control over financial reporting, management concluded that
as of June 30, 2012, our internal control over financial reporting was effective. The effectiveness of our
internal control over financial reporting as of June 30, 2012 has been audited by BDO USA, LLP, an
independent registered public accounting firm, as stated in its report which appears on page 117 of this
Annual Report on Form 10-K.
Consistent with guidance from the Securities and Exchange Commission, management did not
include the operations acquired from Kaplan Virtual Education in the internal controls assessment as
of June 30, 2012. The operations were acquired on July 1, 2011 and constituted 2% of total assets and
4% of revenues for the year then ended.
Changes in Internal Control over Financial Reporting—Remediation of Previously Identified Material
Weakness
During the audit process for the fiscal year ended June 30, 2011, management assessed a material
weakness in our internal control over financial reporting related to the project management of the
implementation of a new enterprise-wide financial system and the resulting effects the system had on
our ability to execute our financial reporting close process in a timely manner.
In fiscal year 2012, to address this material weakness in our internal control over financial
reporting concerning our management of the enterprise resource planning system (‘‘ERP System’’), we
engaged external resources to assist company information technology and accounting staff engaged in
intensive quality control and checking of the new ERP System to timely perform the quarterly close
process and ensure accurate financial reporting. We have enhanced our system development life cycle
approach and will follow the new approach for expected further enhancements and updates to the ERP
System. We have hired additional information technology management personnel with extensive
experience managing the operations of and enhancement of ERP systems. In addition, following the
addition of our new President and Chief Operating Officer, new project management and additional
staff, subsequent to the end of the 2012 fiscal year, we hired a new Chief Information Officer with
significant ERP systems experience who oversees the current operation of and future improvements to
the ERP and other information technology infrastructure.
As of June 30, 2012, we determined that the measures undertaken to establish an effectively
designed and operating process of internal control over financial reporting have enabled management
to conclude that the material weakness identified during the audit of our financial statements as of
June 30, 2011 has been remediated.
116
Report of Independent Registered Public Accounting Firm
Board of Directors and Stockholders
K12 Inc.
Herndon, Virginia
We have audited K12 Inc. and subsidiaries’ (the Company) internal control over financial reporting
as of June 30, 2012, based on criteria established in Internal Control—Integrated Framework issued by
the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria).
K12 Inc. and subsidiaries’ management is responsible for maintaining effective internal control over
financial reporting and for its assessment of the effectiveness of internal control over financial
reporting, included in the accompanying Item 9A, Management’s Annual Report on Internal Control
Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control
over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control over financial reporting was maintained
in all material respects. Our audit included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the
design and operating effectiveness of internal control based on the assessed risk. Our audit also
included performing such other procedures as we considered necessary in the circumstances. We believe
that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable
assurance regarding the reliability of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting principles. A company’s internal
control over financial reporting includes those policies and procedures that (1) pertain to the
maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and
dispositions of the assets of the company; (2) provide reasonable assurance that transactions are
recorded as necessary to permit preparation of financial statements in accordance with generally
accepted accounting principles, and that receipts and expenditures of the company are being made only
in accordance with authorizations of management and directors of the company; and (3) provide
reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or
disposition of the Company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or
detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject
to the risk that controls may become inadequate because of changes in conditions, or that the degree
of compliance with the policies or procedures may deteriorate.
As indicated in the accompanying Item 9A, Management’s Annual Report on Internal Control
over Financial Reporting, management’s assessment of and conclusion on the effectiveness of internal
control over financial reporting did not include the internal controls of Kaplan Virtual Education and
Insight Schools, which was acquired on July 1, 2011 and is included in the consolidated balance sheet
of K12 Inc. and subsidiaries as of June 30, 2012 and the related consolidated statements of operations,
redeemable convertible preferred stock and equity (deficit), and cash flows for the year ended June 30,
2012. Kaplan Virtual Education and Insight Schools constituted 2% of total assets as of June 30, 2012,
and 4% revenues for the year then ended. Management did not assess the effectiveness of internal
control over financial reporting of the entities because of the timing of the acquisitions. Our audit of
internal control over financial reporting of K12 Inc. also did not include an evaluation of the internal
control over financial reporting of Kaplan Virtual Education and Insight Schools.
117
In our opinion, K12 Inc. and subsidiaries maintained, in all material respects, effective internal
control over financial reporting as of June 30, 2012, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets of K12 Inc. and subsidiaries as of
June 30, 2012 and 2011 and the related consolidated statements of operations, redeemable convertible
preferred stock and equity (deficit), and cash flows for each of the three years in the period ended
June 30, 2012 and our report dated September 12, 2012 expressed an unqualified opinion thereon.
Bethesda, Maryland
September 12, 2012
/s/ BDO USA, LLP
118
ITEM 9B. OTHER INFORMATION
None
PART III
We will file a definitive Proxy Statement for our 2012 Annual Meeting of Stockholders (the ‘‘2012
Proxy Statement’’) with the SEC, pursuant to Regulation 14A, not later than 120 days after the end of
our fiscal year. Accordingly, certain information required by Part III has been omitted under General
Instruction G(3) to Form 10-K. Only those sections of the 2012 Proxy Statement that specifically
address the items set forth herein are incorporated by reference.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by Item 10 is hereby incorporated by reference to our 2012 Proxy
Statement under the captions ‘‘Election of Directors’’ and ‘‘Section 16(a) Beneficial Ownership
Reporting Compliance.’’
ITEM 11. EXECUTIVE COMPENSATION
The information required by Item 11 is hereby incorporated by reference from our 2012 Proxy
Statement under the captions ‘‘Executive Compensation’’ and ‘‘Director Compensation.’’
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS, MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information required by Item 12 is hereby incorporated by reference from our 2012 Proxy
Statement under the caption ‘‘Security Ownership of Certain Beneficial Owners and Management.’’
ITEM 13. CERTAIN RELATIONSHIPS, RELATED TRANSACTIONS AND DIRECTOR
INDEPENDENCE
The information required by Item 13 is hereby incorporated by reference from our 2012 Proxy
Statement under the captions ‘‘Certain Transactions’’ and ‘‘Director Independence.’’
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
The information required by Item 14 is hereby incorporated by reference from our 2012 Proxy
Statement under the caption ‘‘Independent Registered Public Accounting Firm Fees.’’
119
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a)(1) Financial Statements.
PART IV
The information required by this item is incorporated herein by reference to the financial
statements and notes thereto listed in Item 8 of Part II and included in this Annual Report.
(a)(2) Financial Statement Schedules.
All financial statement schedules are omitted because the required information is included in the
financial statements and notes thereto listed in Item 8 of Part II and included in this Annual Report.
(c) Exhibits.
The following exhibits are incorporated by reference or filed herewith.
See Exhibit Index
120
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as
amended, the registrant has duly caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
SIGNATURES
K12 INC.
By: /s/ RONALD J. PACKARD
Name: Ronald J. Packard
Title: Chief Executive Officer
September 12, 2012
POWER OF ATTORNEY
Know all persons by these presents, that each person whose signature appears below constitutes
and appoints Ronald J. Packard, Harry T. Hawks and Howard D. Polsky, and each of them severally,
his or her true and lawful attorney-in-fact with power of substitution and resubstitution to sign in his or
her name, place and stead, in any and all capacities, to do any and all things and execute any and all
instruments that such attorney may deem necessary or advisable under the Securities Exchange Act of
1934, as amended, and any rules, regulations and requirements of the U.S. Securities and Exchange
Commission in connection with the Annual Report on Form 10-K and any and all amendments hereto,
as fully for all intents and purposes as he or she might or could do in person, and hereby ratifies and
confirms all said attorneys-in-fact and agents, each acting alone, and his or her substitute or substitutes,
may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this report has
been signed below by the following persons on behalf of the registrant and in the capacities and on the
dates indicated:
Signature
Title
Date
/s/ RONALD J. PACKARD
Ronald J. Packard
Chief Executive Officer and
Director (Principal Executive
Officer)
September 12, 2012
/s/ HARRY T. HAWKS
Harry T. Hawks
Executive Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
September 12, 2012
/s/ NATHANIEL A. DAVIS
Nathaniel A. Davis
Chairman of the Board and
Director
September 12, 2012
/s/ CRAIG R. BARRETT
Craig R. Barrett
Director
September 12, 2012
121
Signature
Title
Date
/s/ GUILLERMO BRON
Guillermo Bron
/s/ STEVEN B. FINK
Steven B. Fink
/s/ MARY H. FUTRELL
Mary H. Futrell
/s/ JON Q. REYNOLDS
Jon Q. Reynolds
/s/ ANDREW H. TISCH
Andrew H. Tisch
Director
September 12, 2012
Director
September 12, 2012
Director
September 12, 2012
Director
September 12, 2012
Director
September 12, 2012
122
Exhibit
No.
3.1
3.2
4.1
Exhibit Index
Description of Exhibit
Third Amended and Restated Certificate of Incorporation of K12 Inc. (incorporated by
reference to Exhibit 3.1 to the Registrant’s Quarterly Report on Form 10-Q for the
quarter ended December 31, 2007).
Amended and Restated Bylaws of K12 Inc. (incorporated by reference to Exhibit 3.2 to
the Registrant’s Quarterly Report on Form 10-Q for the quarter ended December 31,
2007).
Form of stock certificate of common stock (incorporated by reference to Exhibit 4.1 to
the Registrant’s Amendment No. 4 to Registration Statement on Form S-1, File
No. 333-144894).
4.2* Amended and Restated Stock Option Plan and Amendment thereto (incorporated by
reference to Exhibit 4.2 to the Registrant’s Registration Statement on Form S-1, File
No. 333-144894).
4.3*
Form of Stock Option Contract—Employee (incorporated by reference to Exhibit 4.3 to
the Registrant’s Registration Statement on Form S-1, File No. 333-144894).
4.4
4.5
4.6*
4.7*
4.8*
4.9
10.1
Form of Stock Option Contract—Director (incorporated by reference to Exhibit 4.4 to the
Registrant’s Registration Statement on Form S-1, File No. 333-144894).
Form of Second Amended and Restated Stockholders Agreement (incorporated by
reference to Exhibit 4.5 to the Registrant’s Registration Statement on Form S-1, File
No. 333-144894).
K12 Inc. 2007 Equity Incentive Award Plan (incorporated by reference to Exhibit 4.8 to
the Registrant’s Amendment No. 4 to Registration Statement on Form S-1, File
No. 333-144894).
K12 Inc. 2007 Employee Stock Purchase Plan (incorporated by reference to Exhibit 4.9 to
the Registrant’s Amendment No. 4 to Registration Statement on Form S-1, File
No. 333-144894).
Form of Indemnification Agreement for Non-Management Directors and for Officers of
K12 Inc. (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report
on Form 10-Q for the quarter ended September 30, 2008).
Form of Director’s Indemnification Agreement (incorporated by reference to Exhibit 10.1
to the Registrant’s Current Report on Form 8-K filed with the SEC on October 22, 2008).
Revolving Credit Agreement and Certain Other Loan Documents by and among K12 Inc.,
School Leasing Corporation, American School Supply Corporation and PNC Bank, N.A.
(incorporated by reference to Exhibit 10.1 to the Registrant’s Registration Statement on
Form S-1, File No. 333-144894).
10.2*^ Amended and Restated Stock Option Agreement of Ronald J. Packard dated as of
July 12, 2007 (incorporated by reference to Exhibit 10.5 to the Registrant’s Amendment
No. 6 to Registration Statement on Form S-1, File No. 333-144894).
10.3*
10.4*
Stock Option Agreement of Bruce J. Davis (incorporated by reference to Exhibit 10.6 to
the Registrant’s Registration Statement on Form S-1, File No. 333-144894).
Employment Agreement of Bruce J. Davis (incorporated by reference to Exhibit 10.11 to
the Registrant’s Amendment No. 1 to Registration Statement on Form S-1, File
No. 333-144894.
123
Exhibit
No.
10.5
10.6*
10.7*
Description of Exhibit
Deed of Lease by and between ACP/2300 Corporate Park Owner, LLC and K12 Inc.,
dated December 7, 2005 (incorporated by reference to Exhibit 10.13 to the Registrant’s
Amendment No. 1 to Registration Statement on Form S-1, File No. 333-144894).
Employment Agreement of Celia Stokes (incorporated by reference to Exhibit 10.15 to
the Registrant’s Amendment No. 1 to Registration Statement on Form S-1, File
No. 333-144894).
Employment Agreement of Howard D. Polsky (incorporated by reference to Exhibit 10.16
to the Registrant’s Amendment No. 1 to Registration Statement on Form S-1, File
No. 333-144894).
10.8*^ Stock Option Agreement between K12 Inc. and Ronald J. Packard dated as of July 12,
2007 (incorporated by reference to Exhibit 10.17 to the Registrant’s Amendment No. 6 to
Registration Statement on Form S-1, File No. 333-144894).
10.9*
First Amendment to Employment Agreement of Howard D. Polsky (incorporated by
reference to Exhibit 10.18 to the Registrant’s Amendment No. 4 to Registration Statement
on Form S-1, File No. 333-144894).
10.10
10.11
10.12
10.13*
10.14
10.15
10.16
10.17
Amendment No. 1 to Revolving Credit Agreement (incorporated by reference to
Exhibit 10.19 to the Registrant’s Amendment No. 4 to Registration Statement on
Form S-1, File No. 333-144894).
First Amendment to Deed of Lease by and between ACP/2300 Corporate Park
Owner, LLC and K12 Inc., dated as of November 30, 2006 (incorporated by reference to
Exhibit 10.21 to the Registrant’s Annual Report on Form 10-K for the year ended
June 30, 2008).
Second Amendment to Deed of Lease by and between ACP/2300 Corporate Park
Owner, LLC and K12 Inc., dated as of March 26, 2007 (incorporated by reference to
Exhibit 10.22 to the Registrant’s Annual Report on Form 10-K for the year ended
June 30, 2008).
Employment Agreement of Harry T. Hawks (incorporated by reference to Exhibit 10.1 to
the Registrant’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2010).
Agreement and Plan of Merger by and among K12 Inc., Kayleigh Sub Two LLC, Kayleigh
Sub One Corp., KC Distance Learning, Inc., and KCDL Holdings LLC (incorporated by
reference to Exhibit 2.1 to the Registrant’s Current Report on Form 8-K filed with the
SEC on July 26, 2010).
Certificate of Designations, Preferences and Relative and Other Special Rights of
Series A Special Stock (incorporated by reference to Exhibit 3.1 to the Registrant’s
Current Report on Form 8-K filed with the SEC on July 26, 2010).
Voting Agreement (incorporated by reference to Exhibit 4.1 to the Registrant’s Current
Report on Form 8-K filed with the SEC on July 26, 2010).
Stockholders Agreement by and among K12 Inc., KCDL Holdings LLC, Learning
Group LLC, Learning Group Partners, Knowledge Industries LLC, and Cornerstone
Financial Group LLC (incorporated by reference to Exhibit 4.2 to the Registrant’s
Current Report on Form 8-K filed with the SEC on October 6, 2010).
10.18* Amendment to Amended and Restated Stock Option Agreement (incorporated by
reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q for the
quarter ended December 31, 2010).
124
Exhibit
No.
Description of Exhibit
10.19*^ Amended and Restated Employment Agreement of Ronald J. Packard (incorporated by
reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K filed with the
SEC on October 6, 2010).
10.20
10.21
10.22*
21.1
23.1
24.1
31.1
31.2
32.1
32.2
Securities Purchase Agreement among K12 Inc. and The Other Parties Named Herein
(incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on
Form 8-K filed with the SEC on April 18, 2011).
Investor Rights Agreement (incorporated by reference to Exhibit 4.1 to the Registrant’s
Current Report on Form 8-K filed with the SEC on April 29, 2011).
Employment Agreement of Timothy L. Murray (incorporated by reference to Exhibit 10.1
to the Registrant’s Quarterly Report on Form 10-Q for the quarter ended March 31,
2012).
Subsidiaries of K12 Inc.
Consent of BDO USA, LLP.
Power of Attorney (included in signature pages).
Certification of Principal Executive Officer Required Under Rule 13a-14(a) of the
Securities Exchange Act of 1934, as amended.
Certification of Principal Financial Officer Required Under Rule 13a-14(a) of the
Securities Exchange Act of 1934, as amended.
Certification of Principal Executive Officer Required Under Rule 13a-14(b) of the
Securities Exchange Act of 1934, as amended, and 18 U.S.C. Section 1350.
Certification of Principal Financial Officer Required Under Rule 13a-14(b) of the
Securities Exchange Act of 1934, as amended, and 18 U.S.C. Section 1350.
101.INS
XBRL Instance Document
101.SCH
XBRL Taxonomy Extension Schema
101.CAL
XBRL Taxonomy Extension Calculation
101.LAB
XBRL Taxonomy Extension Labels
101.PRE
XBRL Taxonomy Extension Presentation
101.DEF
XBRL Taxonomy Extension Definition
* Denotes management compensation plan or arrangement.
^ Confidential treatment has been granted with respect to certain portions of this exhibit. A
complete copy of the document, including the redacted portions, has been filed separately with the
SEC.
# Pursuant to Rule 406T of Regulation S-T, the Interactive Data Files included in Exhibit 101 hereto
are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11
or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18
of the Securities Exchange Act of 1934, as amended, and otherwise are not subject to liability
under those Sections.
125
Subsidiaries of Registrant
Name
Exhibit 21.1
Jurisdiction
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
K12 Management Inc.
K12 Services Inc.
Power-Glide Language Courses, Inc.
K12 International Holdings B.V.
University Education Inc.
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
KC Distance Learning LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
The American Education Corporation . . . . . . . . . . . . . . . . . . . . Nevada
. . . . . . . . . . . . . . . . . . . . . Utah
. . . . . . . . . . . . . . . . . . . . . . . . Netherlands
Subsidiaries of K12 Management Inc.
Name
Jurisdiction
K12 Virtual Schools LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
K12 Classroom LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
K12 California Education Solutions LLC . . . . . . . . . . . . . . . . . . Delaware
K12 Florida LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
K12 Washington LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
Capital Education LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
Subsidiary of Power-Glide Language Courses, Inc.
Name
Jurisdiction
Middlebury Interactive Languages LLC . . . . . . . . . . . . . . . . . . . Delaware
Subsidiaries of K12 International Holdings B.V.
Name
Jurisdiction
. . . . . . . . . . . . . . . . . . . . . . . . Netherlands
K12 International Academy B.V.
K12 International Ltd.
K12 Middle East Ltd.
K12 International LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
K12 International GmbH . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Web International Education Group Ltd.
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Cayman Islands
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Cayman Islands
. . . . . . . . . . . . . . . . . Cayman Islands
Switzerland
Subsidiaries of K12 Middle East Ltd.
Name
Jurisdiction
K12 Middle East LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Delaware
K12 Middle East FZ LLC . . . . . . . . . . . . . . . . . . . . . . . . . . . . . UAE
Subsidiary of K12 International GmbH
Name
Jurisdiction
International School of Berne AG . . . . . . . . . . . . . . . . . . . . . . .
Switzerland
Consent of Independent Registered Public Accounting Firm
Exhibit 23.1
K12 Inc.
Herndon, Virginia
We hereby consent to the incorporation by reference in the Registration Statement on Form S-8
(No. 333-148436) of K12 Inc. of our reports dated September 12, 2012, relating to the consolidated
financial statements, financial statement schedule and the effectiveness of K12 Inc. and subsidiaries’
internal control over financial reporting, which appear in this Form 10-K. Our report on the
effectiveness of internal control over financial reporting expresses an unqualified opinion on the
effectiveness of K12 Inc. and subsidiaries’ internal control over financial reporting as of June 30, 2012.
Bethesda, Maryland
September 12, 2012
/s/ BDO USA, LLP
Exhibit 31.1
CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER
I, Ronald J. Packard, certify that:
(1) I have reviewed this annual report on Form 10-K of K12 Inc.;
(2) Based on my knowledge, this report does not contain any untrue statement of a material fact or
omit to state a material fact necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to the period covered by this
report;
(3) Based on my knowledge, the financial statements, and other financial information included in this
report, fairly present in all material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this report;
(4) The registrant’s other certifying officer and I are responsible for establishing and maintaining
disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e))
and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and
15d-15(f)) for the registrant and have:
a. Designed such disclosure controls and procedures, or caused such disclosure controls and
procedures to be designed under our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this report is being prepared;
b. Designed such internal control over financial reporting, or caused such internal control over
financial reporting to be designed under our supervision, to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting principles;
c. Evaluated the effectiveness of the registrant’s disclosure controls and procedures and
presented in this report our conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report based on such evaluation; and
d. Disclosed in this report any change in the registrant’s internal control over financial reporting
that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal
quarter in the case of an annual report) that has materially affected, or is reasonably likely to
materially affect, the registrant’s internal control over financial reporting; and
(5) The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation
of internal control over financial reporting, to the registrant’s auditors and the audit committee of
the registrant’s board of directors (or persons performing the equivalent functions):
a. All significant deficiencies and material weaknesses in the design or operation of internal
control over financial reporting which are reasonably likely to adversely affect the registrant’s
ability to record, process, summarize and report financial information; and
b. Any fraud, whether or not material, that involves management or other employees who have a
significant role in the registrant’s internal control over financial reporting.
Date: September 12, 2012
/s/ RONALD J. PACKARD
Ronald J. Packard
Chief Executive Officer (Principal Executive Officer)
Exhibit 31.2
CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER
I, Harry T. Hawks, certify that:
(1) I have reviewed this annual report on Form 10-K of K12 Inc.;
(2) Based on my knowledge, this report does not contain any untrue statement of a material fact or
omit to state a material fact necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to the period covered by this
report;
(3) Based on my knowledge, the financial statements, and other financial information included in this
report, fairly present in all material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this report;
(4) The registrant’s other certifying officer and I are responsible for establishing and maintaining
disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e))
and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and
15d-15(f)) for the registrant and have:
a. Designed such disclosure controls and procedures, or caused such disclosure controls and
procedures to be designed under our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this report is being prepared;
b. Designed such internal control over financial reporting, or caused such internal control over
financial reporting to be designed under our supervision, to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting principles;
c. Evaluated the effectiveness of the registrant’s disclosure controls and procedures and
presented in this report our conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report based on such evaluation; and
d. Disclosed in this report any change in the registrant’s internal control over financial reporting
that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal
quarter in the case of an annual report) that has materially affected, or is reasonably likely to
materially affect, the registrant’s internal control over financial reporting; and
(5) The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation
of internal control over financial reporting, to the registrant’s auditors and the audit committee of
the registrant’s board of directors (or persons performing the equivalent functions):
a. All significant deficiencies and material weaknesses in the design or operation of internal
control over financial reporting which are reasonably likely to adversely affect the registrant’s
ability to record, process, summarize and report financial information; and
b. Any fraud, whether or not material, that involves management or other employees who have a
significant role in the registrant’s internal control over financial reporting.
Date: September 12, 2012
/s/ HARRY T. HAWKS
Harry T. Hawks
Executive Vice President and Chief Financial Officer
(Principal Financial Officer)
Exhibit 32.1
The following certification is being furnished solely to accompany the Report pursuant to
18 U.S.C. § 1350 and in accordance with SEC Release No. 33-8238. This certification shall not be
deemed ‘‘filed’’ for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, nor
shall it be incorporated by reference in any filing of the Company under the Securities Act of 1933, as
amended, whether made before or after the date hereof, regardless of any general incorporation
language in such filing.
Section 906 Certification
Pursuant to 18 U.S.C. Section 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002,
the undersigned officer of K12 Inc., a Delaware corporation (the ‘‘Company’’), hereby certifies, to such
officer’s knowledge, that:
(1) the accompanying Annual Report of the Company on Form 10-K for the period ended
June 30, 2012 (the ‘‘Report’’) fully complies with the requirements of Section 13(a) or
Section 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and
(2) the information contained in the Report fairly presents, in all material respects, the financial
condition and results of operations of the Company.
Dated: September 12, 2012
/s/ RONALD J. PACKARD
Ronald J. Packard
Chief Executive Officer (Principal Executive Officer)
Exhibit 32.2
The following certification is being furnished solely to accompany the Report pursuant to
18 U.S.C. § 1350 and in accordance with SEC Release No. 33-8238. This certification shall not be
deemed ‘‘filed’’ for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, nor
shall it be incorporated by reference in any filing of the Company under the Securities Act of 1933, as
amended, whether made before or after the date hereof, regardless of any general incorporation
language in such filing.
Section 906 Certification
Pursuant to 18 U.S.C. Section 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002,
the undersigned officer of K12 Inc., a Delaware corporation (the ‘‘Company’’), hereby certifies, to such
officer’s knowledge, that:
(1) the accompanying Annual Report of the Company on Form 10-K for the period ended
June 30, 2012 (the ‘‘Report’’) fully complies with the requirements of Section 13(a) or
Section 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and
(2) the information contained in the Report fairly presents, in all material respects, the financial
condition and results of operations of the Company.
Dated: September 12, 2012
/s/ HARRY T. HAWKS
Harry T. Hawks
Executive Vice President and Chief Financial Officer
(Principal Financial Officer)