Scholastic Corporation — Q3 FY2011 Form 10-Q
Reporting period: Three and nine months ended February 28, 2011; amounts in U.S. dollars, millions except per-share data. The quarter is seasonally weak, and Scholastic typically incurs an operating loss in its first and third fiscal quarters. Financial statements are unaudited.
Financial performance
| Metric | Three months 2011 | Three months 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Revenue | $393.7 | $398.8 | $1,360.3 | $1,374.5 |
| Operating income (loss) | $(31.9) | $(0.5) | $50.0 | $69.8 |
| Continuing operations income (loss) | $(25.3) | $(4.3) | $17.4 | $27.9 |
| Net income (loss) | $(25.1) | $(5.6) | $14.6 | $26.9 |
| Diluted EPS | $(0.81) | $(0.15) | $0.42 | $0.73 |
For the quarter, cost of goods sold rose to 50.9% of revenue from 48.9%; SG&A rose to 51.6% from 46.4%. For the nine months, those ratios were 47.3% versus 45.6% and 44.5% versus 42.0%, respectively. Higher fulfillment and postage costs, promotions, and digital investment weighed on margins. Nine-month cash provided by operations was $154.9, down from $200.9; investing used $102.1 and financing used $209.5. Cash ended at $90.7, versus $244.1 at May 31, 2010.
At February 28, 2011, total debt was $220.1, including $49.5 classified as current and $170.6 long-term; a year earlier total debt was $265.3. Current assets were $807.7 and current liabilities $508.6. The company reported $325.0 available under its revolving facility, no revolving borrowings, and compliance with debt covenants. The $325.0 availability is facility capacity, not cash on hand. Debt maturities are concentrated in fiscal 2013, when the $5% notes mature; the credit agreement expires June 1, 2012.
Material changes and business drivers
- Quarterly revenue fell 1.3%; nine-month revenue fell 1.0%. Educational Publishing was the main source of weakness: nine-month revenue declined 16.1% to $301.5, reflecting reduced school funding and comparison with strong prior-year educational technology sales.
- Children’s Book Publishing and Distribution had nine-month revenue growth of 2.5% to $653.2, but operating income fell to $36.5 from $67.2, amid promotional spending, digital initiatives, and a $3.5 bad-debt charge related to Borders.
- International revenue rose 9.4% to $322.9 for nine months, helped by favorable currency effects and stronger Canadian and Australian operations; segment operating income increased to $21.7 from $12.7.
- Media, Licensing and Advertising quarterly revenue declined 19.0% to $24.3, largely due to lower toy catalog and interactive product sales and advertising timing.
- Prior-year nine-month results included $40.1 of asset impairments; no comparable impairment was recorded in the current nine-month period. The prior-period charge makes the decline in current operating income less pronounced than the underlying pressures might suggest.
Outlook, risks and notable items
- Management lowered/updated its FY2011 outlook to revenue of approximately $1.9 billion and diluted EPS from continuing operations of $1.25–$1.40, before one-time items. It cited continued pressure on school funding and accelerated digital investment.
- Scholastic acquired Math Solutions for $8.0 net of cash acquired, recognizing $1.5 goodwill and $5.6 amortizable intangibles. It also bought the land under its headquarters for $24.3 and satisfied $1.3 of related capital-lease obligations.
- The company spent $157.2 including fees on a November tender offer for 5.20 million shares at $30 per share, about 15.1% of common shares then outstanding. It reported $44.5 remaining under share-repurchase authorizations.
- The expected FY2011 effective tax rate was approximately 48%, primarily reflecting foreign net operating losses for which the company does not expect to realize tax benefits. The quarter’s effective tax rate was 29.3%.
- Other risks include continued school-budget constraints, Borders-related credit exposure, foreign-exchange and variable-interest-rate exposure, and potential goodwill impairment: educational reporting-unit fair values only modestly exceeded carrying values. The filing also describes a securities class-action matter; the company disputed the allegations and was defending the case.
- A partial settlement of the Canadian pension plan generated $3.6 of expense in the nine-month period, reported within discontinued operations. The company expected FY2011 pension contributions of approximately $5.8.
Investor verification points
- Track whether school funding, educational technology sales, and classroom/library demand recover, and compare results with the $1.9 billion revenue and $1.25–$1.40 EPS outlook.
- Assess whether digital and promotional spending is producing growth while restoring segment profitability and consolidated margins.
- Monitor operating cash generation, inventory levels, and liquidity after the large share tender offer and land purchase; reconcile reported cash flow with seasonal working-capital needs.
- Review debt refinancing and repayment plans ahead of the June 2012 credit-facility expiry and the 2013 note maturity, as well as covenant headroom.
- Follow Borders receivable recoveries, educational goodwill valuation headroom, tax-audit outcomes, and the status of the securities litigation.