SCHL

Scholastic Corp. 10-Q Summary: Quarter Ended August 31, 2000

Business Context and Reporting Period

This Form 10-Q covers the three-month period ended August 31, 2000, for Scholastic Corporation, a global children's publishing and media company. The reporting period is the first quarter of the fiscal year, a traditionally low-revenue, seasonal loss period for the company due to the school calendar. A material event during this period was the acquisition of Grolier Incorporated on June 22, 2000, for $400.0 million in cash, which is now consolidated into the financial results.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Revenues nearly doubled (98.4% increase) to $362.1 million. This was driven by a 165.6% increase in the Children's Book Publishing and Distribution segment and a 64.7% increase in Educational Publishing. The acquisition of Grolier contributed $65.9 million in revenue.
• Profitability Improvement: The operating loss narrowed significantly from $33.6 million to $6.8 million. Net loss decreased by 55.1% to $10.6 million.
• Margin Expansion: Cost of goods sold as a percentage of sales decreased from 60.7% to 51.1%. Selling, general, and administrative expenses as a percentage of sales decreased from 54.7% to 48.4%.
• Balance Sheet Impact: Total debt increased from $351.0 million to $763.3 million, primarily due to $350.0 million borrowed under a new "Grolier Facility" and $50.0 million under existing credit lines to finance the acquisition. Goodwill and trademarks increased from $70.4 million to $294.9 million.

Outlook, Commentary, and Risks

• Management Commentary: Management attributes the improved results to strong trade sales of Harry Potter titles (exceeding $90.0 million in revenue), higher educational sales (specifically Scholastic Literacy Place), and the inclusion of Grolier results. The company notes that the first quarter is typically its lowest revenue quarter and that it generally records a seasonal loss.
• Liquidity: The company states that its existing cash position, combined with funds from operations and available credit facilities (Loan Agreement and Revolver), will be sufficient to finance working capital requirements for the remainder of the fiscal year.
• Market Risks:
  • Interest Rate Risk: 69.2% of long-term debt ($528.5 million) bears variable interest rates. A 15% change in the average cost of variable rate debt would impact pre-tax results by approximately $5.9 million annually.
  • Currency Risk: Operations in foreign countries expose the company to currency fluctuations, though management does not currently view this as a significant risk.
• Contingencies:
  • Securities Litigation: The company is defending against an appeal regarding a securities class action lawsuit alleging false statements about financial condition. The company believes the litigation is without merit.
  • Parachute Press Litigation: Ongoing disputes with Parachute Press regarding Goosebumps rights involve claims for approximately $36.1 million in advances and royalties. The company does not believe this will have a material adverse effect.

Key Facts for Investor Verification

• Verify the sustainability of Harry Potter sales momentum beyond the initial hardcover and paperback releases.
• Monitor the integration of Grolier Incorporated and the realization of projected synergies.
• Assess the company's ability to service its significantly increased debt load ($763.3 million) given the seasonal nature of cash flows.
• Track the resolution of the Parachute Press litigation regarding Goosebumps rights and potential financial exposure.
• Review the impact of rising interest rates on the company's variable-rate debt obligations.