Graham Holdings Company — 2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018. This is an annual report, not a standalone fourth-quarter filing. Graham Holdings is a diversified company led by education (Kaplan), with television broadcasting, manufacturing, healthcare, and media and marketing businesses.
Financial performance and condition
| Metric | 2018 | 2017 |
|---|---|---|
| Revenue | $2.696 billion | $2.592 billion |
| Operating income | $246.2 million | $136.4 million |
| Operating margin | 9.1% | 5.3% |
| Net income attributable to common stockholders | $271.2 million | $302.0 million |
| Diluted EPS | $50.20 | $53.89 |
| Operating cash flow | $287.0 million | $268.1 million |
| Capital expenditures | $98.1 million | $57.1 million |
| Cash and cash equivalents at year-end | $253.3 million | $390.0 million |
| Borrowings at year-end | $477.1 million | $493.3 million |
| Working capital at year-end | $720.2 million | $857.2 million |
Net income declined despite higher operating income, principally because 2017 included a $177.5 million deferred tax benefit from the Tax Cuts and Jobs Act. The 2018 effective tax rate was 16.1%, or 22.2% excluding a $17.8 million discrete state tax benefit and a $1.8 million stock-compensation tax benefit. The company reported $32.5 million of net interest expense and $11.4 million of debt-extinguishment costs.
Fourth-quarter 2018 revenue was $689.1 million and operating income was $75.6 million. Net income attributable to common stockholders was $56.7 million, versus $214.2 million in fourth-quarter 2017; the prior-year quarter included a substantial tax benefit from the Tax Act.
Material changes versus 2017
- Revenue grew 4%; operating income rose 80%, with improvement at most divisions. Television broadcasting revenue increased 23% and operating income increased 51%, benefiting from political advertising, higher retransmission revenue, and Winter Olympics advertising. Its operating margin rose to 42% from 34%.
- Education revenue fell 4% to $1.451 billion, while Kaplan operating income increased 25% to $97.1 million. International revenue grew 3%; Higher Education revenue declined 21%, largely reflecting the March 2018 transfer of Kaplan University to Purdue University Global and lower enrollments before the transfer. Test Preparation revenue fell 6%; Professional (U.S.) revenue rose 16%, primarily due to acquisitions.
- Manufacturing revenue increased 18% to $487.6 million and operating income increased to $28.9 million, with growth largely reflecting Hoover, acquired in 2017. Other Businesses’ aggregate operating loss narrowed to $0.2 million from $19.3 million.
- Healthcare revenue decreased 3% to $149.3 million. The division recorded a $7.9 million impairment of the Celtic trade name; operating results also reflected weaker results under a joint-venture management agreement.
- Cash and cash equivalents fell by $136.8 million, largely due to acquisitions, investments, and share repurchases. The company repurchased $118.0 million of Class B shares in 2018, compared with $50.8 million in 2017.
Outlook, risks and unusual items
- Outlook: Management expects 2019 capital expenditures of $95 million to $105 million, including Liverpool Pathways facilities and television spectrum-repacking work. Management stated it expects ample liquidity to meet 2019 cash needs. It estimated a 2019 net pension credit of approximately $54 million. The filing does not provide consolidated revenue or earnings guidance.
- Debt and liquidity: In 2018, the company issued $400 million of 5.75% notes due 2026 and used the proceeds plus cash to redeem $400 million of 7.25% notes due 2019, incurring $11.4 million of extinguishment costs. A $300 million revolving facility matures in 2023; no revolver borrowings were outstanding at year-end. The company reported compliance with its financial covenants.
- Purdue Global arrangement: Kaplan transferred Kaplan University’s institutional assets and operations for nominal cash consideration and provides support under a 30-year agreement. Payments to Kaplan depend on Purdue Global first meeting operating costs and specified priority payments; the first five years include a $10 million annual priority payment to Purdue Global. Kaplan recorded $16.8 million in Purdue Global service fees in 2018 and assesses collectability quarterly. Kaplan advanced $20 million at closing for the first two priority payments.
- Regulatory and geographic risks: Kaplan’s service-provider role carries Title IV compliance exposure, including potential joint and several liability with Purdue Global for certain violations. Open Department of Education reviews include the former Kaplan University and two campuses sold to ECA. Brexit, U.K. visa and higher-education registration requirements, and U.K. VAT treatment could affect Kaplan’s results. A £15.4 million VAT receivable is under dispute; the company expects recovery, but an adverse outcome would result in a charge.
- Contingencies: ECA is in receivership and repudiated leases guaranteed by Kaplan; the company recorded $17.5 million of estimated losses on guarantor obligations in 2018 and considers recovery from ECA unlikely. Management said reasonably possible future losses from existing and threatened legal, regulatory, and other proceedings, in excess of amounts recorded, could reach approximately $45 million. Outcomes remain uncertain.
- Other unusual items and risks: A $26.9 million pension settlement gain and $3.4 million postretirement-plan curtailment gain contributed to 2018 non-operating pension income. Marketable equity securities produced a $15.8 million net loss. Three manufacturing reporting units had goodwill fair values less than 25% above carrying values, making them more vulnerable to impairment if forecasts or market assumptions weaken. Healthcare reimbursement and regulation, advertising shifts and political-ad cyclicality, foreign exchange, and media competition are additional risks.
- Subsequent event: In January 2019, the company acquired a 90% interest in two auto dealerships; a subsidiary borrowed $30 million to help finance the acquisition.
Most important facts for investors to verify
- Whether operating improvement is sustainable after adjusting for political advertising, Olympics-related revenue, acquisitions, and other one-time items.
- How much cash Kaplan ultimately collects under the Purdue Global agreement, and whether Purdue Global can meet its operating costs and priority payments.
- The outcome and potential financial exposure of the Education Department reviews, ECA lease guarantees, and the £15.4 million U.K. VAT dispute; compare developments with the disclosed possible legal-loss estimate.
- Whether 2019 capital spending, liquidity, debt repayments, and share repurchases remain consistent with management’s stated expectations.
- Whether manufacturing goodwill headroom, healthcare reimbursement and compliance, and international student demand withstand adverse operating or regulatory changes.