Graham Holdings Company — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017. Graham Holdings is a diversified education and media company, with additional healthcare and manufacturing operations. Financial statements are unaudited.
Financial performance and liquidity
- Revenue: $582.7 million, down 3% from $601.7 million in Q1 2016. Education revenue declined 7% to $372.9 million; television revenue declined 1% to $91.5 million; other businesses rose 9% to $118.3 million.
- Operating income: $29.1 million versus $51.9 million. Operating margin was approximately 5.0%, compared with 8.6% a year earlier.
- Net income and EPS: Net income attributable to common stockholders was $21.1 million, versus $37.8 million. Diluted EPS was $3.75, versus $6.59. Net margin was approximately 3.6%, versus 6.3%.
- Cash flow: Operating cash flow was $91.9 million, up from $60.9 million. Investing activities used $100.0 million, including $85.4 million for acquisitions; financing activities used $9.6 million. Cash, cash equivalents and restricted cash totaled $657.3 million at quarter-end.
- Debt and liquidity: Total borrowings were $493.3 million, including $6.2 million current. Cash, restricted cash, marketable equity securities and other investments totaled $1.114 billion; working capital was $980.9 million. The company reported compliance with Kaplan’s credit-facility covenants.
- Taxes and pension: The effective tax rate was 11.4%, including a $5.9 million discrete tax benefit from stock compensation; excluding it, the rate was 36.3%. The defined-benefit pension credit was $14.7 million, compared with $12.1 million.
Changes versus Q1 2016
- Operating income fell mainly because of higher NBC network fees at Houston and Detroit stations, lower Kaplan Higher Education earnings amid declining Kaplan University enrollment, and weaker results in other businesses.
- Education revenue fell 7%; Kaplan Higher Education revenue declined 13%, and total Kaplan University students were down 13% to 32,536. New student enrollments at the university increased 2%. Kaplan International revenue fell 3% reported but rose 4% on a constant-currency basis.
- Television operating income decreased 37% to $26.0 million. Other businesses’ operating loss widened to $10.6 million from $5.7 million, including higher healthcare integration costs and SocialCode losses.
- Net income comparisons were affected by unusual items: Q1 2016 included an $18.9 million gain on a business sale and a $1.8 million securities-sale gain, partly offset by $5.4 million in foreign-currency losses. Q1 2017 included $1.7 million in foreign-currency gains.
- Operating cash flow improved, largely due to higher customer cash receipts. Investing cash outflow was lower than in Q1 2016, when acquisition spending was $198.2 million.
Outlook, transactions and risks
- Management estimated 2017 capital expenditures of $70 million to $80 million and said existing cash and internally generated funds should meet cash needs throughout 2017. No earnings or revenue guidance was provided.
- On April 27, 2017, Kaplan agreed to transfer Kaplan University’s institutional assets and operations to a new nonprofit affiliated with Purdue University, subject to regulatory and other approvals. Kaplan would provide support services under a long-term agreement. The terms include potential funding obligations, including a $10 million annual priority payment to the new university for its first five years, and possible payments to Kaplan only after specified costs and priorities are met. Approval timing and completion were uncertain; the company expected approvals no earlier than Q4 2017.
- In April 2017, the company acquired Hoover Treated Wood Products for approximately $205 million, net of cash acquired. During Q1 it acquired four businesses for $86.5 million in cash and contingent consideration and assumed $59.1 million of pension and postretirement obligations.
- Kaplan University remained subject to an open Department of Education program review and provisional certification through September 30, 2018. Kaplan could not predict the review’s outcome; the company did not expect open reviews to have a material impact, but their effects remain uncertain.
- Management said existing litigation was not expected to have a material effect, but reasonably possible future losses above accrued amounts could reach approximately $20 million. Market risks include equity-price, interest-rate and foreign-exchange exposure.
Investor verification priorities
- Track the Purdue-Kaplan transaction’s approvals, closing conditions, final service-agreement economics and any required advances or liabilities.
- Monitor Kaplan University enrollment trends, Department of Education review results and provisional-certification restrictions.
- Assess whether television earnings recover under the new NBC contract and the retransmission agreement with Comcast effective April 1, 2017.
- Verify the sustainability of operating cash flow and the impact of acquisitions, including Hoover, on debt, liquidity and results.
- Separate recurring performance from the $5.9 million stock-compensation tax benefit, foreign-currency gains and prior-year disposal gains when comparing earnings.