Business context and reporting period
The Washington Post Company—now Graham Holdings Company—filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2012. The diversified company operated education businesses through Kaplan and media businesses in cable television, newspaper publishing and television broadcasting. The 2011 comparisons are for periods ended July 3, following a change in fiscal-quarter reporting dates.
Financial results and condition
- Revenue: Second-quarter revenue was $1.007 billion, down 5% year over year; first-half revenue was $1.979 billion, down 6%. Education and newspaper publishing declined, partly offset by growth in broadcasting and cable.
- Operating income: $60.4 million for Q2, versus $82.1 million; $77.8 million for the first half, versus $138.7 million. Television broadcasting was the only division with higher operating results in both comparisons.
- Profit and EPS: Continuing-operations income attributable to common shareholders was $34.0 million, or $4.48 per diluted share, in Q2, versus $47.6 million, or $6.00. First-half continuing income was $44.8 million, or $5.85 per share, versus $65.5 million, or $8.16. Net income including discontinued operations was $51.8 million in Q2 and $82.9 million for the first half; those totals included after-tax discontinued-operations income of $17.8 million and $38.1 million, respectively.
- Cash flow and investment: First-half operating cash flow was $169.7 million, compared with $180.0 million. Capital expenditures were $97.8 million; investing activities used $77.4 million. Financing activities used $210.5 million, including $109.7 million of commercial-paper repayment, $74.5 million of share repurchases and $37.8 million of dividends. Cash and cash equivalents fell to $264.1 million from $381.1 million at year-end.
- Liquidity and debt: Working capital was $290.4 million, versus $250.1 million at December 31, 2011. Total debt was $455.7 million, down from $565.2 million, and included $397.3 million of 7.25% unsecured notes due 2019 and a $51.2 million Australian-dollar borrowing. Long-term debt was $452.6 million.
- Other metrics: The company held $385.9 million in marketable equity securities at fair value. First-half dividends declared were $7.35 per share. The effective tax rate on continuing operations was 40.2%, versus 37.0%.
Material changes versus prior periods
- Education revenue fell 9% in Q2 and 10% in the first half; Kaplan moved to a $9.8 million first-half operating loss from $41.5 million of operating income. Higher education revenue declined 19% in Q2, reflecting weaker demand and lower average enrollments.
- Newspaper publishing revenue fell 7% in both periods, and its first-half operating loss widened to $38.4 million from $15.7 million. Print advertising declined 15% in Q2 and 16% in the first half; circulation also declined.
- Broadcasting revenue rose 13% in Q2 and the first half; operating income increased 34% and 43%, respectively, aided by stronger advertising, including political advertising, and cost controls.
- Cable revenue rose 2% in Q2 and 1% in the first half, while operating income fell 5% and 9%, respectively, primarily because of higher programming costs.
- First-half continuing income was pressured by lower operating results and higher net interest expense ($16.3 million versus $13.9 million). Comparisons also reflect differing unusual items: 2011 included a $30.7 million investment impairment, while 2012 included investment-sale gains and restructuring costs.
Outlook, commentary, risks and unusual items
- Management estimated 2012 capital expenditures of $240 million to $265 million and said it expected ample liquidity for 2012, funded mainly from cash and internally generated funds. Additional Kaplan restructuring costs were considered likely in the second half.
- Kaplan’s total enrollments at June 30 were 14% below a year earlier, although new enrollments at Kaplan University and KHE Campuses rose 3% in the first half. Management cited weaker higher-education demand, competitive pricing and a shift toward lower-priced online test preparation.
- Kaplan sold EduNeering in April and Kaplan Learning Technologies in February. Discontinued-operations income included an $18.5 million after-tax gain on EduNeering, an after-tax loss on Kaplan Learning Technologies, and $23.2 million of related tax benefits recorded in the first quarter.
- In July 2012, the company determined Avenue100 had no value and disposed of it; it estimated a $5 million pretax loss and approximately $42 million tax benefit. These were estimates disclosed after quarter-end.
- Regulatory exposures include two pending Department of Education program reviews, a preliminary Kaplan University review report requiring further file reviews, and a pending final report for a Kaplan campus. Three KHE campuses received accreditor “show cause” notices; loss of accreditation could jeopardize Title IV funding and certain program credentials.
- Management estimated that, absent corrective actions and if trends continued, at least 20 KHE campus reporting units—representing approximately 22% of KHE’s 2011 revenue—could exceed the 90/10 Title IV funding threshold in 2013. The ultimate impact of gainful-employment rules remained uncertain after a court overturned most of the regulations.
- Other items included $8.4 million of Q2 severance, early-retirement and restructuring charges and $2.6 million of unrealized foreign-currency losses. S&P maintained BBB+ long-term ratings but revised its outlook to Negative; Moody’s changed its outlook to Rating Under Review in July.
- Management said existing legal proceedings were not expected to have a material effect. Disclosure controls were deemed effective, with no material change in internal control reported for the quarter.
Important facts for investors to verify
- Whether Kaplan can stabilize enrollment and revenue, meet regulatory requirements and contain restructuring costs.
- Progress and outcomes of DOE reviews, campus accreditation notices and future 90/10 compliance.
- Whether newspaper revenue declines and losses continue, and whether broadcast advertising gains persist.
- Cash generation, capital spending, share repurchases and the company’s capacity to service debt amid lower continuing-operations earnings.
- Final sale adjustments and tax consequences for EduNeering and Kaplan Learning Technologies, and the realized Avenue100 loss and tax benefit.