Scholastic Corporation — Form 10-Q Summary
Reporting period: The filing covers the third quarter and first nine months of fiscal 2017, ended February 28, 2017. Although the request metadata says “2016 Q3,” the filing itself is for fiscal 2017 Q3. Dollar amounts are in millions except per-share data.
Business context and results
Scholastic publishes and distributes children’s books and educational materials through its Children’s Book Publishing and Distribution, Education, and International segments. Its school-based businesses are seasonal; the company generally records operating losses in the first and third fiscal quarters.
| Metric | Three months ended Feb. 28, 2017 | Three months ended Feb. 29, 2016 | Nine months ended Feb. 28, 2017 | Nine months ended Feb. 29, 2016 |
|---|---|---|---|---|
| Revenue | $336.2 | $366.0 | $1,242.0 | $1,159.0 |
| Operating income (loss) | $(23.6) | $(16.4) | $24.7 | $9.2 |
| Continuing-operations income (loss) | $(15.5) | $(7.2) | $12.9 | $9.1 |
| Net income (loss) | $(15.4) | $(9.0) | $12.9 | $6.5 |
| Basic EPS | $(0.44) | $(0.26) | $0.37 | $0.19 |
In Q3, revenue fell 8.1% and the operating loss margin was approximately 7.0%, compared with 4.5% a year earlier. Cost of goods sold was 47.7% of revenue versus 48.6%. For the first nine months, revenue rose 7.2%, and operating margin improved to approximately 2.0% from 0.8%; cost of goods sold rose to 48.4% of revenue from 47.4%.
Cash flow, balance sheet, and debt
- Nine-month operating cash flow was $113.4, versus cash used of $151.6 in the prior-year period. Management attributed the swing mainly to approximately $186 of prior-year income-tax payments related to the Ed Tech sale and favorable operating-asset and liability movements; accrued royalties increased and related payments were expected in later periods.
- Investing activities used $45.6, including $36.1 of property and equipment additions and $19.0 of prepublication and production expenditures. Financing activities used $5.5. Cash and equivalents ended at $461.8, up from $399.7 at May 31, 2016.
- At February 28, 2017, total assets were $1,847.6 and current liabilities were $508.1. Inventory was $351.2; it had risen from $271.2 at May 31, 2016.
- Debt was $5.8, consisting of short-term foreign-currency lines; there were no borrowings under the revolving facility. The new five-year facility, entered into January 5, 2017, provides $375 of revolving capacity, matures January 5, 2022, and reduced the prior facility limit from $425. The company reported compliance with its covenants.
- Cash dividends declared were $0.15 per share for the quarter. The board declared another $0.15 quarterly dividend payable June 15, 2017.
Material changes and management commentary
- Q3 Children’s Book Publishing and Distribution revenue declined $20.8, chiefly from lower book-club sponsors and event revenue and lower Harry Potter-related trade sales. Nine-month segment revenue increased $68.1, largely on Harry Potter titles, including Harry Potter and the Cursed Child and Fantastic Beasts and Where to Find Them; segment operating income rose to $91.2 from $62.6.
- Education revenue was nearly flat for nine months at $186.4; segment operating income was $7.8 versus $3.7. Management said some classroom-book sales shifted into Q4 and highlighted demand for core literacy solutions.
- International Q3 revenue fell $5.2, including unfavorable currency translation and the planned exit from low-margin Australian software distribution. Nine-month revenue rose $15.2, while segment operating income increased to $16.5 from $7.1.
- Unallocated overhead rose $9.0 in Q3 and $26.6 for nine months, primarily due to strategic technology systems, facilities costs, and severance. Management said technology spending would continue in current and future fiscal periods; it expects the systems and process investments to improve efficiency and customer insight over time.
- The company’s planned reduction in lower-margin book fairs reduced fair counts but raised revenue per fair. Cost-reduction programs helped offset weaker Q3 book-club and trade sales.
Outlook, risks, and unusual items
- Management expected a full-year effective tax rate, including discrete items, of approximately 40.5%. It focused on Q4 sales of comprehensive core curriculum literacy solutions. The filing gives no overall revenue or earnings guidance.
- Foreign exchange movements affect results; nine-month International revenue included $6.1 of unfavorable translation. The company uses short-term currency forwards as economic hedges, not for speculation.
- Wisconsin assessed Scholastic Book Fairs $5.4 in sales taxes, excluding penalties and interest, for fiscal 2004–2014. The company disputes the assessment and is litigating; it recorded no liability, but acknowledges it could be found liable for some or all of the amount.
- Various ordinary-course legal claims were not expected by management to have a material adverse effect. The IRS was auditing fiscal 2014 income taxes; possible adjustments to unrecognized tax benefits could follow the audit.
- The U.S. pension plan termination was approved by the board, subject to regulatory approvals, and was expected to take approximately 12–18 months. The company reported $2.3 of participant lump-sum payments; payments above $3.2 for the fiscal year could trigger a settlement charge.
- The prior-year comparison included a $6.9 impairment charge for legacy prepublication assets and a $2.9 loss related to the final working-capital adjustment on the Ed Tech sale. No new business components were classified as discontinued operations in the current nine-month period.
Important facts for investors to verify
- Whether Q4 literacy-product sales and other seasonal demand materialized as management expected.
- Whether book-club performance, trade sales after the unusually strong Harry Potter first half, and the Australian software exit affect subsequent revenue and margins.
- Cash conversion and working-capital trends, particularly inventory levels and accrued royalties due for payment in later periods.
- Actual spending, timing, and benefits from strategic technology and facilities investments, and the resulting overhead burden.
- Developments in the Wisconsin sales-tax litigation, IRS audit, and U.S. pension-plan termination or any settlement charge.
- Liquidity and covenant compliance under the new credit facility, alongside continued dividends and share repurchases.