Scholastic Corp (SCHL) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Scholastic Q2 2011 earnings conference call.

At this time, all participants are in a listen-only mode.

Later, we will conduct a question-and-answer session and instructions will be given at that time.

(Operator Instructions).

As a reminder, today's conference call is being recorded.

I would now like to turn the conference over to your host, Mr.

Jeff Mathews, Vice President of Corporate Strategy, Business Developments and Investor Relations.

Please go ahead.

Good morning, everyone.

Before we begin, I would like to point out that the slides for this presentation are available for simultaneous viewing by going to our website, scholastic.com, clicking on Investor Relations and following the links on that page.

I would also like to note that this presentation contains certain forward-looking statements which are subject to various risks and uncertainties, including the conditions of the children's book and educational materials markets and acceptance for the Company's products in those markets, and other risks and factors identified from time to time in the Company's filings with the Securities and Exchange Commission.

Actual results could differ materially from those currently anticipated.

Our comments today also include references to certain non-GAAP financial measures as defined in Regulation G.

The reconciliation of these non-GAAP financial measures with the relevant GAAP financial measure and other information required by Regulation G is provided in our earnings release, which is posted on the Company's Investor Relations website at investor.scholastic.com.

Now I will introduce Dick Robinson, the Chairman, CEO, and President of Scholastic to begin our presentation.

Thank you, Jeff, and good morning.

Thank you, everyone, for joining us on our fiscal 2011 second-quarter conference call.

This morning I am joined by Maureen O'Connell, Chief Administrative Officer and CFO.

Other members of the executive team are available to answer questions at the end of the prepared comments.

Last quarter, we celebrated Scholastics 90th birthday with the launch of Read Every Day.

Lead a Better Life., a global literacy campaign underscoring the importance of reading as the pathway for young people to succeed in the 21st century.

We believe our mission of helping kids read and learn has never been more relevant at a time when reading and learning is becoming more digital and more global.

Even as we launched New COOL, our completely revamped e-commerce system to all of our Club customers this fall and as we prepared to beta test a major online e-book store in early spring, our print Children's Book business is alive and well and thriving.

School Book Fairs and Trade had strong growth, and in Clubs we sustained last year's revenue level.

We also achieved significant revenue gains in international, driven by positive results in Canada, Australia, Asia, and Export.

In Scholastic Education, we held much but not all of the revenue gains we achieved last year when the 2009 federal stimulus program contributed to record growth.

Finally, we returned $156 million to shareholders through a successful tender offer funded with cash and free cash flow during the quarter, only temporarily drawing down our credit facility.

We remain committed to using our strong free cash flow to return capital to shareholders and have approximately $44 million still authorized for open-market repurchases.

In addition, yesterday's Scholastic's Board increased their regular dividend to $0.40 annually.

While revenues were positive overall last quarter, operating profits were below expectations in Education and Clubs, and we have lowered our full-year outlook as Maureen and I will discuss in more detail.

But first I would like to turn to our operating results.

In the Children's Books segment last quarter, revenue grew 5% overall, showing the continued resilience of the print children's book market, as well as the strength of Scholastics channels of publishing.

In School Book Fairs, revenue rose 8% from higher revenue per Fair.

Fair count also rose last quarter and we are on plan to hold 125,000 Fairs in the US this year, up modestly from fiscal 2010.

Strong growth and higher profits in Fairs are driven by our successful multiyear plan to streamline operations, strengthen our sales and merchandising, bring more parents and grandparents to our Fairs, revamp our Loyalty Program for school and celebrate the importance of reading in the schools which holds Fairs.

In trade, sales increased 8% from a year ago, driven by best-selling series, publishing including Suzanne Collins' Hunger Games trilogy, the multiplatform adventure series, The 39 Clues, and Harry Potter.

New titles and series from David Shannon and Dave Pilkey also made the New York Times Best Seller list.

We anticipate trade sales this spring will be below last year when we benefited from multiple new 39 Clues titles.

But exciting new publishing projects including a relaunch of the hugely popular Anamorphs series, as well as the second wave of The 39 clues called Cahills vs Vespers should drive growth next summer.

In Clubs, we held revenue and teacher participation level with last year.

The rollout of New COOL was successful with Clubs' online sales growing by 6%, helped by a 30% increase in direct ordering by parents online.

Last year, we also increased promotion and service levels to engage teachers more fully.

This resulted in earlier participation by teachers and particularly in -- particular in September and higher order volumes for the quarter.

However, order size declined as richer incentives affected purchasing patterns and Club sales were flat in the second quarter.

For the remainder of the year, e-commerce improvements and the benefit of higher customer engagement from the fall's increased promotion should result in modest growth in Clubs.

Overall segment profitability declined $11 million in the second quarter, reflecting the higher promotion spending in Clubs as well as $6 million in planned incremental spending on e-commerce and our e-book store.

This was partially offset by higher profitability in both Fairs and Trade.

We expect last year's profit decline to moderate in the second half based on expected improvements in Clubs.

With our print business thriving, this year, we have invested more to build our digital sales and delivery systems.

We expect that e-books could make up more than 25% of our Children's Books revenue over the next several years and we are building out our online e-book store on top of our COOL e-commerce platform.

Last quarter, we continued to develop and test our online ordering and backend delivery platform for e-books.

We tested our eReader application with children, generating strong positive feedback.

We are also previewing our e-book platform with publishers and authors to enthusiastic response as we develop our selection of quality children's titles for testing and launch.

And all of this progress positions us well to beta test our e-book offering this spring with a full-scale launch next fall.

Fiscal 2010 last year was a wonder year for Scholastic Education, the education technology and services division of the Educational Publishing segment.

Compared to fiscal 2009, this year sales grew over 50% and -- or compared to 2009, sales last year grew over 50% for the year and over 100% in the second quarter as we benefited from the initial surge of federal stimulus funds in new products.

As we made our original plan for fiscal 2011, we were optimistic that the level of funding available for our products, especially remaining ARRA funds, as well as Title I and IDEA and new programs such as Race to the Top and School Improvement Grants combined with our sales momentum and expanded customer base, would allow us to sustain revenues for the year.

Instead, last quarter we saw uncertainty about state and local budgets cause school districts to decrease or delay purchases even if federal funds were still available.

While last year's revenue in Scholastic Education was still up -- while last quarter's revenue in Scholastic Education was still up over 50% compared to fiscal 2009, showing that we have held a significant portion of last year's record growth, revenue was down $16 million or 25% compared to fiscal 2010.

Product sales declined, but revenue from tech support staff development consulting was up 50% as we serviced an expanded customer base.

Looking forward, we see a slightly more positive outlook.

First, the funding environment should improve as deadlines approach for states and school districts to spend remaining federal stimulus funds.

Also, for the remainder of the year, we have less challenging comps than we did in the first half.

Second, even in a difficult market we are selling more tech support, professional development and consulting services to our expanding customer base.

In addition to being solidly profitable, services have also strengthened our relationship with customers and our ability to sell additional products.

Based on the value of existing service contracts, we are confident in delivering at least $5 million in incremental service in the second half of fiscal 2011.

Third, we are launching a major enhancement to READ 180, our flagship program, in March which we are previewing to our key customers next month.

The next generation of READ 180 provides advanced new tools and intelligence to engage students and empower teachers and administrators, which we believe will drive long-term growth in this hugely valuable franchise beginning in the fourth quarter.

Based on these three factors, our plan is to match revenue performance in Scholastic Education and in the segment in the second half of fiscal 2011, at a level with fiscal 2010.

Reflecting a greater percentage of services, segment profit margins will decline modestly as we stated in July.

And beyond fiscal 2011, we continue to target robust growth driven by the continued success of READ 180, the launch of new products under development and the further growth in services.

In short, our industry-leading educational technology business, which has been a major driver of our growth and profitability, continues to be a juggernaut.

It is driving reading and learning improvement in many of our major cities where students need help in developing the reading ability so necessary for success and even survival in the 21st century.

This business has won the respect and support from school people for its power to intervene in the life of struggling readers on a broad scale and improve their ability to succeed in school and in life.

Now I will ask Maureen O'Connell to review our second-quarter financial results and our revised outlook for 2011.

Thanks, Dick, and good morning, everyone.

Looking at the second-quarter results, revenues rose 2%, primarily reflecting higher sales in Children's Books and international, partially offset by a decline in Educational Publishing.

Cost of goods sold increased in absolute dollars and as a percent of sales, reflecting increased incentives and enhanced service in Book Clubs as well as lower sales of higher margin educational technology products.

SG&A increased relative to a year ago, primarily due to higher Club promotion and planned spending under digital initiatives.

This is partially offset by lower corporate overhead due to lower bonus and pension expense.

The prior year period also included one-time severance expense of $1.9 million associated with restructuring in the UK.

In the prior year period, we recorded a one-time non-cash asset impairment charge of $40.1 million.

Excluding approximately $42 million of mostly non-cash one-time items in the prior year, operating income declined by $18.9 million in the second quarter.

This decline was primarily the result of a lower educational [sales] space, higher promotion spending in Clubs and planned increase and investment on digital initiatives from approximately $6 million.

Overall, earnings per diluted share from continuing operations were $2.19, compared to adjusted earnings per share of $2.29 a year ago.

Last quarter's EPS included approximately $0.10 a share of accretion associated with the Company's share repurchase program.

Free cash flow for the quarter was $132.8 million compared to $141.3 million last year, reflecting non-cash charges in the prior year, partially offset by strong working capital management last quarter.

Accounts payable increased as we secured more favorable terms from our largest vendors.

As Dick described, last quarter we returned $156 million to shareholders through a successful tender offer, buying 5.2 million shares of common stock at $30 per share.

We were able to fund a significant buyback with cash and free cash flow during the quarter, only temporarily drawing down on our credit facility.

We remain committed to using our strong free cash flow to return capital to shareholders and have $44.5 million still authorized for open market share repurchases.

In addition, we have raised our regular dividend by 33%.

Last quarter, we also exercised an option to purchase land we had previously leased for our corporate headquarters for approximately $24 million using cash holdings.

This did not impact free cash flow as defined.

Cash and cash equivalents declined to $54.4 million from $178.3 million a year ago.

As a result of stock buyback, land repurchases, as well as the acquisition of Math Solutions in September, partially offset by strong free cash flow over the past 12 months.

Total debt declined as well to $231.2 million at quarter end from $279.6 million a year ago, as we repaid a portion of the amortizing term loan.

Net debt was $176.8 million compared to $101.3 million a year ago.

Based on our year-to-date results and our current outlook, we now expect fiscal 2011 earnings per diluted share from continuing operations of $1.80 to $2.05, which corresponds to operating income of $125 million to $140 million before the impact of one-time items.

Revenue is now expected to be between $1.9 billion and $1.95 billion.

This revised full-year outlook reflects year-to-date results as well as the following key assumptions about the second half.

Continued solid growth in Book Fairs; modest growth in Clubs, based upon increased customer engagement following our expenditures on promotion and service as well as continued enhancements to our e-commerce and customer service, guided by our experience in the first half; level sales in Educational Publishing, based on new products; higher service revenue and a modest improvement in the funding environment as deadlines to spend remaining federal stimulus funds approach.

Our revised EPS guidance includes a full year benefit of approximately $0.15 per diluted share associated with the Company's share repurchase.

We have maintained our outlook for free cash flow of $90 million to $100,000,000, given our success year-to-date managing working capital.

Now with that, I will turn the call back over to Dick.

Thank you, Maureen.

We believe second-quarter results illustrate the solid foundations of Scholastic's businesses as well as our progress investing in their long-term growth.

Our traditional Children's Book business is growing strongly as we make significant progress in our top digital growth opportunities, e-commerce and e-books.

Scholastic education's long-term growth fundamentals are sound as reflected in the growing number of school districts who rely on us every day as a key partner.

The long-term positive funding environment and pipeline of major new products and enhancements should drive growth over the next two years.

Our financial management, cost controls and cash discipline remain very strong.

As a result we continue to be generating strong free cash flow, allowing us to both invest in the business and return capital to shareholders.

While we have modestly lowered our outlook for the year, we continue to believe that these three legs of our strategy represent a powerful formula to pursue our mission of improving reading and learning, whether in print or digitally, to grow our business and to create shareholder value.

With that, I will moderate a question-and-answer period.

In addition to Maureen, I am joined this morning by Ellie Berger, President of Scholastic Trade; Deborah Forte, President of Scholastic Media; Margery Mayer, President of Scholastic Education; Judy Newman, President of Scholastic Book Clubs; and Hugh Roome, President of Scholastic Consumer and Professional Publishing.

With that, let's open the call for questions.

(Operator Instructions).

Drew Crum of Stifel Nicolaus.

Good morning, everyone.

Maureen, I think you answered the question, but just want to make sure I understand.

The Educational Publishing guidance for fiscal '11, or I guess the second half, is expected to be level, not fiscal '11.

Is that correct?

That is correct, Drew.

We are expecting the second half to be level with the prior year due to our growth in our service business, our new product launches, and we also believe there will be a slightly improved funding environment as the deadline reaches to spend the funds that the government (multiple speakers) fund.

And then maybe a more intermediate to longer term question as it relates to Educational Publishing.

Maybe Margery can answer this.

How is the outlook for the firm changed, given the midterm election results?

The one area that there seems to be consensus between the Democrats and the Republicans is around education, and we hear both sides of the aisle talking about continued focus on accountability, continued drive to getting even our most challenged students ready for college and career.

So we remain optimistic that education is going to be a priority for both parties and that a lot of the conversation that is going on about the kind of change we need in education where it is more personalized, more data-driven, we think that those are trends that are going to really positively affect our business going forward.

And, Margery, you guys issued a press release a couple of weeks ago about your participation in Proclamation 2011, the Texas pre-K reading adoption.

When does that happen?

Is that a fiscal '11 event for you or is that fiscal '12?

And how big is the market opportunity for the Company?

Yes.

It's fiscal '12.

The revenue is really coming in the summer.

We are going to start hearing decisions about -- from that adoption probably in February and March.

So we will be able to tell you more about what is going on there, and the opportunity is north of $40 million.

There's five or six programs that are competing for the funds and that's an adoption where we've done well in the past, and we think we have a really strong program and a strong team.

So we believe that we are going to do well there.

Now, we are having to spend money right now on that adoption and that selling and marketing expense is in our numbers in the second quarter and there will be some more in the third quarter.

Okay, thanks, very helpful.

Shifting gears to the trade business, you guys have had a really good start to fiscal '11.

Could you comment on the performance in some of your international subsidiaries and just generally speaking, what are you seeing in terms of pricing and inventory levels at retail?

And then the final question as it relates to trade is how are you guys managing your exposure to Borders and Barnes & Noble, where it seems those two businesses are continuing to struggle?

Internationally, our trade is great.

It's partly driven by our great US trade list.

And of course we are selling those books extremely well in Canada, where we are the number one children's publisher, in Australia and in the UK, and our trade business in every one of those countries is up.

Our trade business in Export is also quite strong.

We have a growing English-language trade distribution business in Asia.

So the trade picture for print Children's Books right now around the world is strong, and perhaps even stronger than it is in the United States.

Well, do you want to move on to the question of Borders and Barnes & Noble?

Yes.

For some time now for both Barnes & Noble and Borders, we have been watching the level of current payments against the age payments and making sure that we manage our receivable outstanding so that it stays within acceptable limits that we are comfortable with.

Of course, we have increased our bad debt reserves, we did that last year relative to the companies, given their performance.

But we have carefully managed what we ship based on what is being paid for, and so we are comfortable with our position for both of those companies.

Two last questions for me.

The digital investments you guys are making for fiscal '11, I think it is $11 million year to date.

Is the guidance still $20 million?

And the cost of goods sold was up considerably in the quarter.

Is that a trend we should expect going forward?

Let me try the digital one.

I think we are right on target with this kind of thing as you point out.

These are primarily e-commerce improvements relative to our COOL platform as we broaden the COOL platform to sell e-books and other things.

Plus some significant investments in developing our e-book system, which I referred to earlier, and enhancing several hundred titles for e-books so that we are able to deliver the really strong experience through our eReader application when we beta test this in the next couple of months.

So we are right on target with that.

This doesn't include any marketing investments for the full launch which will probably come in the summer.

And then, Drew, your question about cost of goods sold and the rate decline.

Really the decline in the quarter was related to the enhanced incentives and service that we are offering in Clubs, as well as the mix of business toward service versus product within Education.

And so we will still have an enhanced service going, forward, we will have less promotional activity in Club so less incentives and rewards and free books.

So it will be less of an impact in the second half, but there will be some impact year over year when you include the service, higher service component education as well as continued service enhancement in our Club business.

Barry Lucas of Gabelli & Company.

Good morning.

Dick, if you could maybe drill down a little bit deeper on the Club business, I really was a bit surprised, given the absence of teacher dislocations and the new -- what seemed to be your early success selling on a new platform, parent involvement, etc.

So what do you think went wrong with --?

Well, I think most broadly, Barry, this is a transition for our customers as well as for the Company in moving to more sophisticated e-commerce and eventually into the sale of digital product.

So we launched New COOL which is a different and much richer and more enhanced platform to all of our 900,000-some teacher sponsors who, in turn, offer this to the parents who want to order by credit card and through our e-commerce system.

So this is a pretty major change in the way our business is conducted.

And of course, it is a very favorable change long term because it is building our relationships with our customers in an expanded e-commerce format, leading to digital sale.

But the growing pains on this are real.

And we -- also the way people are ordering has changed.

So they are being more efficient in ordering, in some respects, and they are using more bonus points up front, so that we -- because you can see on their e -- or Club quartering platform, it's just exactly what number of bonus points you can spend right now.

And so, some of them are moving toward a bonus point use right up front instead of paying cash.

So we are using their credit card.

In addition, we offer expanded service and we took off some of the restrictions on size of orders so we got a lot more small orders which increased our costs, and also teachers spent less as they -- when they just ordered periodically and they didn't accumulate their order.

So this had an effect on our cost base and I think also affected the size of the order and the amount of total cash we received.

So these are all growing pains from our Club strategy change in the use of more e-commerce.

We are learning from it and we believe that we will have stronger growth in the second half and that, of course, as we continue with this platform we will have -- will be much more knowledgeable about how our customers are responding.

Judy, do you want to add some thoughts to that?

Sure.

Hi, Barry.

As Dick said, we are making this strategic conversion to online, and what we are excited about is the increase we are seeing in teacher sponsors using COOL, as we said, up 6% and also much more engagement with parents ordering directly online, which we know is our big opportunity.

So for the very first time, we are really having a direct relationship with parents and we can recommend books, have a much more targeted experience for them which will, we believe, really result in much higher shopping carts.

And we are very excited about the engagement that we got in the fall.

Teachers are loving us.

As Dick said, they are using their points, they are ordering like crazy, and now in the second half of the year, we'll be applying some of those learnings to really focus on increasing the size of each order and modifying the costs as best as we can.

One follow-up on kind of the longer term.

Margery, maybe you could expand a little bit on the enhancements with differences in this new generation READ 180, and maybe you can touch on some of the new -- other new products in math and what have you that are in the hopper that can provide a list for next fiscal year?

Well, READ 180 Next Generation is our first major new release of READ 180 since our enterprise edition which came out in 2005.

Every year we have made enhancements to READ 180 to keep you current on new technology, to add new features for customers, but this is really a major, a major new release.

Now, what we've done here is we have wanted to stick with the basic model and the technology that works so well, because we have over 40 studies that prove that READ 180 works.

We've been cited in the What Works clearinghouse.

We have a very large footprint throughout the country where there is great success.

So the fundamental premise of the program, the science behind the program, we have kept in place.

And we have really had to look at a new set of companies to think about what this revision should look like.

So we have been studying the practices of companies like Johnson & Johnson, Apple, Nike, places like that rather than traditional publishing models for revision.

What we have done, though, is really re-engineered the experience of the user so that the program is more effective, smarter.

We are going to empower teachers in a more powerful way, make their jobs easier by doing -- using algorithms to help them group students in new ways.

So there are a lot of new things in the program that we are not going to talk about right now.

But basically the focus of the program is to keep the great science and the great effectiveness, the engagement that kids have, the power of data and technology but to make it all that much better.

Great and --.

Oh and on other products going forward, we have a lot of activity going on right now with -- in math and more literacy programs.

I'd rather not talk about those too specifically because they are competitive, but we are very geared up and we have got lots of interesting stuff going on.

I'm showing no further questions at this time and would like to turn the conference back over to Dick Robinson.

Thank you all for your attention and support.

We look forward to the rest of the fiscal year and unveiling our plans for the following year.

So we will talk to you again in March.

Thank you very much.

Ladies and gentlemen, that does conclude today's conference.

You may disconnect and have a wonderful day.