SCHL

Scholastic Corporation 10-Q Summary

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended November 30, 2008 (the second quarter of fiscal 2009). Scholastic Corporation operates in four segments: Children's Book Publishing and Distribution, Educational Publishing, Media, Licensing and Advertising, and International. The company is highly seasonal, with revenues typically lower in the first and third fiscal quarters. During this period, the company completed the sale of its domestic direct-to-home (DTH) business and exited several unprofitable non-core businesses (Argentina, Caribe, and Coach magazine), classifying them as discontinued operations.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Decline: Revenues for the six months ended November 30, 2008, decreased by 22.4% ($272.2 million) compared to the prior year. This was primarily driven by the absence of Harry Potter and the Deathly Hallows revenues in the current period, which contributed approximately $250 million in the prior year.
• Profitability Impact: Operating income for the six-month period dropped significantly to $43.9 million from $155.0 million in the prior year. Earnings from continuing operations fell to $14.7 million from $86.3 million.
• Discontinued Operations: The company recognized a net loss of $20.7 million from discontinued operations for the six months ended November 30, 2008, compared to $13.5 million in the prior year. This increase is due to impairment charges and closure costs associated with the DTH business, Argentina, Caribe, and Coach.
• Expense Increases: Bad debt expense increased to $8.7 million (from $5.3 million) due to higher reserves in domestic and international trade publishing. Severance costs totaled $14.4 million for the six-month period as part of cost-reduction initiatives.
• Foreign Exchange: The International segment faced a $21.5 million unfavorable impact from foreign exchange rates in the quarter, reducing revenues and operating income.

Guidance, Outlook, and Risks

• Cost Reduction: Management has achieved the top end of its cost-saving goal, eliminating approximately $35 million in annualized expenses. They plan to reduce spending by an additional $20 million in the second half of the fiscal year through bonus eliminations and reduced discretionary spending.
• Outlook: The company anticipates lower earnings for the current fiscal year than previously forecasted. While the company remains profitable from continuing operations, the market value of its shares has fallen below the carrying value of its net assets, prompting a review of long-lived assets for potential impairment.
• Liquidity: As of November 30, 2008, the company had $31.8 million in cash and cash equivalents and access to approximately $280.0 million in additional liquidity under its revolving credit facility. Total debt is $389.0 million, with 54% not due until fiscal year 2013.
• Risks: Key risks include the potential for asset impairment if market conditions persist, foreign currency fluctuations, and the impact of the economic downturn on consumer and educational spending. The company is currently under audit by the IRS and New York State/City for various fiscal years.

Investor Verification Checklist

• Discontinued Operations: Verify the final settlement of the DTH business sale and the timeline for the divestiture of DTH International and the Maumelle facility.
• Asset Impairment: Monitor future filings for any goodwill or long-lived asset impairments, given the share price is below the book value of net assets.
• Bad Debt Reserves: Track the trend in bad debt expense, which has risen significantly due to credit concerns with a large retailer and international operations.
• Debt Covenants: Confirm continued compliance with debt covenants (interest coverage and leverage ratios) as earnings decline.
• Restatement Impact: Review the implications of the prior goodwill impairment restatement (Note 2) on future financial reporting and segment analysis.