Q3 2024 Scholastic Corp Earnings CallParticipants
Jeffrey Mathews; Executive Vice President – Corporate Development and Investor Relations; Scholastic Corp
Peter Warwick; President & CEO; Scholastic Corp
Haji Glover; Chief Financial Officer, Executive Vice President; Scholastic Corp
Brendan McCarthy; Analyst; Sidoti
Presentation
Operator
Good day. Thank you for standing by, and welcome to the Scholastic Reports Q3 fiscal year 2024 results conference call. At this time, all participants are in a listen-only mode. (Operator Instructions)Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Jeffrey Mathews.
Jeffrey Mathews
Welcome everyone to Scholastic’s fiscal 2024 fourth-quarter earnings call. Today and the call I’m joined by Peter Warwick, our President and Chief Executive Officer, and Haji Glover, our new Chief Financial Officer and Executive Vice President, who I’m excited to welcome.As usual, we posted the company investor presentation on our IR website at investor.scholastic.com, which you may download now if you’ve not already done so. We’d like to point out that certain statements made today will be forward-looking. These forward-looking statements by their nature are subject to various risks and uncertainties, and actual results may differ materially from those currently anticipated.In addition, we’ll be discussing some non-GAAP financial measures as defined in Regulation G. The reconciliation of those measures to the most directly comparable GAAP measures can be found in the company’s earnings release, and accompanying financial tables filed this afternoon on a Form 8-K.This earnings release has also been posted to our Investor Relations website. I encourage you to review the disclaimers in the release and investor presentation, and to review the risk factors disclosed in the company’s annual and quarterly reports filed with the SEC.Should you have any questions after today’s call, please send them directly to our IR e-mail address, [email protected]. Now I’d like to turn the call over to Peter Warwick to begin this afternoon’s presentation.
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Peter Warwick
So thanks, Jeff, and good afternoon, everyone. We appreciate you joining us today. During the third quarter, Scholastic executed our long-term strategy for growth and impact, while delivering value for our shareholders.In particular, we continue to prove our leadership in children’s publishing and media through a consistent and growing presence on bestsellers lists, and advanced our 360 degree content creation strategy, including with our recently announced agreement to acquire 100% of the economic interest in 9 Story Media Group, which I’ll discuss in a moment.In quarter three, we also continued to execute solidly in school reading events and education solutions, while navigating the currently complex environment in US schools, and positioned ourselves for an important quarter four season and long-term growth.We demonstrated our confidence in the long-term outlook for our business with continued share buybacks, returning over $60 million to shareholders during the quarter through a combination of open market share repurchases and our regular dividend.As expected, in quarter three, Scholastic recorded modest revenue declines and higher losses, largely reflecting external factors and the shifting seasonality of our business.Going into quarter four, typically, our biggest and most profitable quarter, we’re confident in achieving our previously provided revised fiscal 2024 guidance for adjusted EBITDA of between $165 million to $175 million, with full year revenue approximately level with or slightly below the prior year.I’m thrilled to be joined on today’s call by our new CFO, Haji Glover, who rejoined Scholastic in January. Haji is a forward-looking, growth-oriented finance leader who already knows Scholastic well. He is well positioned to drive change and focus our business on the future.Using his experience and perspective to build on the work of his predecessor, Ken Cleary, who lead the finance organization to dramatically increase efficiencies across our operations.Haji is another key addition to the Scholastic leadership team, bringing new perspectives, new skills and a shared commitment to helping Scholastic build and execute our plans for long-term growth and value creation.As announced this morning, we’ve appointed two new directors to our Board, Kaya Henderson and Alix Guerrier. They are both accomplished leaders in K-12 education and education technology, with extensive experience serving kids, families, and schools, as well as expertise, driving excellence in complex organizations.Kaya’s career spans over three decades of work in schools, policy, and the not-for-profit sector. Earning her reputation as one of the most admired school leaders in America.Alix contributes over 20 years of experience in the education sector, including as a teacher, and successful ed tech entrepreneur. They’re joining the company is an exciting moment, when their skills, experience, and market knowledge are especially relevant to us, and we’re very happy to welcome them.Turning now to the highlights across our business segments. In the children’s book publishing and distribution segment, revenues declined 5% as last quarter reflected the planned resizing of book clubs, as well as lower expected production revenue from Scholastic Entertainment.Scholastic’s trade publishing continued to outperform with consolidated trade sales up 15%, excluding Scholastic Entertainment. This strong performance contrasts positively with the juvenile and young adult retail book selling market, which was down a slight 1% during the quarter, as overall sales levels continue to revert to pre-pandemic growth trends.Scholastic’s exceptional showing in retail was driven by a strong performance over the holiday season, and multiple new releases, including heroes by Alan Gratz, and the latest titles in our popular graphic novel series, Heartstopper, Wings of Fire, Amulet, and the Babysitters Club. Scholastic’s new front-list titles top best-seller lists, and we continue to expand our market share of middle grade graphic novels.At one point last quarter, in fact, Scholastic titles filled every spot on BookScan’s top 20 list of best-selling juvenile graphic novels. In 2024, we’ve increased our already dominant presence on the New York Times, middle grade and graphic books and manga best-seller lists compared to the same period last year.This includes Waverider, the long-awaited finale in the Amulet series, which landed at number one on the New York Times graphic novel bestseller list and was the number one juvenile title the week of on sale with over 30,000 copies sold.We’re also excited about multiple upcoming releases, which we expect to drive further momentum in our children’s publishing and spotlight our incredible waters. This includes two more releases this calendar year and Dave Pilkey’s Dog Man series, including Dog Man: The Scarlet Shredder, which went on sale earlier this week. In August, we release Unico, a new kid-friendly manga series, which is already generating a lot of buzz.Highlights of our full calendar include the illustrated edition of Suzanne Collins’ worldwide bestseller, The Hunger Games; a new illustrated Christmas at Hogwarts; and the latest novel from best selling and award-winning author, Alice Hoffman, When We Flew Away: A Novel of Anne Frank Before the Diary.In Scholastic Entertainment, revenues were down in quarter three relative to the prior year period, when we recorded revenue for delivery of episodes of Eva the Owlet. However, building for the future, we continued to execute on our 360 degree strategy, bringing Scholastic brands and franchises to the screen.Disney announced another season of the live-action Goosebumps TV series on Disney+, after a highly successful first season this past fall. We expect the second season to drive significant incremental exposure and upside for our global best-selling book series and brand.As the President of Disney-branded television has said, quote, audiences everywhere fell in love with Goosebumps’ chills, thrills, heart and humor, making it one of Disney-branded television’s most watched shows of last year.In addition to the Goosebumps franchise, we continue to partner with top-tier platforms, producers, screen writers and actors to meet strong demand for newstalgia. As I’ve discussed on previous calls, we have multiple exciting projects in our pipeline building on best-selling Scholastic franchises, like Magic School Bus, 39 Clues, Animorphs, Fly Guy, and more, as we continue to create new media moments to complete the virtuous circle of children’s brands on page and screen.Turning to our school reading events division, the fiscal first and third quarters are typically a quieter time given the timing of school holidays. In Book Fairs, sales declined slightly in quarter three. Revenue per fair, or RPF, remains close to record levels.However, this school year, we have seen RPF declined slightly. This largely reflects the addition of smaller fairs to the full schedule as we increased fair count, as well as headwinds in the school environment, including high rates of absenteeism, which impacts student participation, and teacher shortages. That said, fair count remains strong and on track to meet our goal of returning to 90% of pre-pandemic levels while strengthening the profitability of our fairs.Thanks to our customer-centric approach, from improved tools for book fair hosts; a new payment options for kids and families; to kids’ favorite merchandising and assortments, we continue to deliver a unique, joyful celebration of reading that only Scholastic Book Fairs can provide. As a result, we remain optimistic about a strong spring season.Last quarter, we also further refined our plan to strategically resize book clubs to a more profitable core as part of our plan to achieve long-term profit growth in school reading events over time. We’re already seeing cost savings as a result. That said, lower teacher participation spending from earlier this school year is carrying over into club spring results as expected.Moving to education solutions, quarter three sales were down very modestly, as we operationalize our growth strategy and realigned key product lines in the market to deliver blended literacy-focused solutions. We see significant opportunities ahead, and are advancing plans to reinvent our classroom magazines business to combine digital content and instruction.As we work to broaden and deepen our print and digital offerings, we’re focused on meeting the needs of educators — the increasing need for literacy products in schools’ and districts’ ability to tap multiple funding streams, including federal asset funding, which school districts must commit to use by September 2024.Turning to our international segment, revenues and profits were up strongly as a result of the ongoing recovery in book sales, particularly in Canada, the UK, and Asia. Our international team is focused on helping to drive the recovery in target markets, and ensuring our titles are optimally positioned while further driving efficiencies and leveraging corporate resources as appropriate.Since its 2017 reboot, Scholastic Entertainment has proven that there’s significant demand for Scholastic’s brand and publishing IP on screens, as well as the page. And that we can effectively and profitably meet this demand.Further as it opens more channels and opportunities to reach kids where they are, we have seen this strategy boost book sales and increase the value of our IP and brand. This is the virtuous circle that I’ve spoken about.Last week’s announcement to invest in 9 Story Media Group was a timely opportunity to cement our relationship with a long-time mission aligned partner and team. 9 Story is an industry-leading creator, producer, and distributor, of premium animated and live-action children’s content. Scholastic has been working with the company and its founder for over 20 years.By acquiring 100% of the economic interest and a minority of voting rights in 9 Story Media Group, we achieved two things. First, we’ll significantly expand the scope and scale of our media business, adding 9 Story’s production, distribution, and licensing revenue and profit lines to Scholastic. Second, through greater strategic coordination and integration, we will substantially increase our ability and speed in building and monetizing Scholastic’s global multimedia children’s brands, which underpin, and will broaden our 360 degree content creation strategy.These two rationales are complementary and additive, which is why we’re so excited about this transformative opportunity for Scholastic. With 9 Story, in addition to the talent of their team and their exciting pipeline, we’re acquiring turnkey global production studios in Toronto, Dublin and Bali, with state-of-the-art animation and live-action production capabilities.The quality of their work speaks for itself, with 21 Emmy award wins. 9 Story controls an extensive content library, distributing over 5,000 half hour episodes of 2D and 3D animation. Together with our live action catalog, as well as over 10,000 half hour programs distributed across major advertising video-on-demand, or a-VoD platforms, 9 Story also has the ability to tap into significant Canadian and Irish tax subsidies and to presell and monetize productions through their global sales, distribution, and licensing teams.This substantially de-risks new projects, and improves the long-term economics of media franchises far beyond what’s possible under our current arm’s length relationship.As I previously mentioned, we believe this investment to acquire 100% of the economic interest in 9 Story will significantly deepen our capabilities across the entire IT life cycle in turn, bolstering our 360 degree content creation strategy.Scholastic and 9 Story share the same mission — to engage children and families with inspiring stories and content. In today’s world, it’s important that we meet kids where they are, and bring them back to reading. We see tremendous opportunity to leverage the deeper capabilities we gain from the deal to support the growth of Scholastic’s children’s franchises, drive book sales, create additional opportunity for Scholastic authors and partners, and introduce millions of new kids and families to Scholastic books and stories.We’ll also expand long-term monetization opportunities as we bring 9 Story’s in our distribution, merchandising and licensing teams and global sales network onto the Scholastic platform. So to sum up, we believe this deal is both additive and synergistic.It adds 9 Story’s industry-leading capabilities and revenue streams; their compelling economic model and a highly talented team, leveraging Scholastic’s trusted brand and proven ability to create iconic children’s series and franchises, the new capabilities will allow us to build deeper connections with young people through our stories as the pages of our books come to life on screens and through merchandising.In short, this opportunity positions Scholastic to meet the continued strong demand for high-quality kids and family entertainment, expanding the footprint of Scholastic’s authors and illustrators, building global franchises on every platform and, of course, creating more value for our shareholders.We look forward to sharing more once the deal is closed. And with that, I’ll now hand the call over to Haji.
Haji Glover
Thank you, Peter, and good afternoon, everyone. Before I turn to our financial results, I would like to say how happy I am to be back at Scholastic, a company whose mission and people are very dear to me.As the new CFO, I have the privilege and the opportunity to lead a strong mission-driven financial organization at Scholastic at a very exciting moment in the company’s history. The work that Ken and the finance team achieved to drive efficiencies over the past few years has created a solid foundation that we can now use strategically to accelerate opportunities for growth and value creation.Our outlook is also strengthened by the progress we have made over the past year and a half, allocating capital against our priorities, which include investing in growth opportunities, maintaining a strong and efficient balance sheet, and returning excess cash to the shareholders to enhance their returns.Our recent agreement to invest in 9 Story and the over $60 million we’ve returned to shareholders last quarter, both speak to that progress. I look forward to supporting Peter, my talented colleagues in the board, and continuing to rigorously allocate capital to support Scholastic’s long-term growth.With that, I will now walk through our consolidated financial results. I will refer to our adjusted results for the third quarter, excluding one-time items, unless otherwise indicated. In fiscal 2023, the company did not report one-time items. Please refer to our press release tables and SEC filings for a complete disclosure of one-time items.As Peter described in our seasonally smaller third quarter, revenues were $323.7 million, just slightly below the prior-year period. Adjusted operating loss in the quarter grew to $30.6 million as expected, reflecting increasing seasonality, and spending in preparation for anticipated significant Q4, compared to $27.7 million a year ago.Adjusted EBITDA was a loss of $7.2 million from $5.4 million a year ago, in line with adjusted operating income. Adjusted net loss, excluding one-time items, was $23.3 million, compared to $19.2 million in the prior year period. Adjusted loss per diluted share was $0.80 compared to $0.57 in fiscal 2023.Turning to our segment results, in children’s book publishing and distribution, revenues for the third quarter decreased 5% to $193.6 million, primarily driven by strategic resizing of book clubs. Adjusted segment operating income was $2.7 million up from $1.9 million in the prior year period, reflecting improved efficiencies on modestly lower revenues.Within the segment, consolidated trade revenues were $77.6 million in the quarter compared to the prior period revenues of $72.8 million, driven by strong frontlist sales, and multiple bestsellers in the quarter. This was partially offset by lower timing-related revenues in Scholastic Entertainment relative to the prior year when the company completed the delivery of episodes of the animated series, Eva the Owlet, based on Scholastic’s Owl Diaries series.Book fair revenues decreased 1% to $102.7 million in the quarter, driven by slightly lower average revenue per fare, partly offset by higher fair count. Fair count remains on track to reach nearly 90% of pre-pandemic levels this year, up from 85% in fiscal 2023. Book club revenues of $13.3 million were down versus prior year period revenues of $27.7 million.As the company has previously discussed, we eliminated unprofitable offerings during the back-to-school season as part of our strategy to shrink this business to a more profitable core. These actions impacted third quarter revenues, as expected, and will continue to have an impact for the remainder of the school year.Turning to the education solutions segment, revenues were down 2% to $68.5 million in the third quarter, reflecting lower sales of supplemental instructional materials, partially offset by a higher state-sponsored program revenues.Segment operating loss was $800,000 compared to profit of $700,000 in the prior period, largely reflecting lower revenues and continued investments to realign key product lines to deliver blended literacy-focused solutions.International segment revenues increased 16% to $59.1 million in the quarter, reflecting continued recovery in our major markets, particularly in Canada, and the UK, as well as in Asia. The net foreign exchange impact was negligible in the quarter.Segment operating loss improved to $5.9 million, compared to a loss of $9 million a year ago, primarily driven by improved results in Canada, which benefited from the reorganization of book clubs in the first quarter. Adjusted unallocated overhead costs of $26.6 million increased from $21.3 million in the prior period, primarily reflecting favorable litigation settlements in the prior year. This was partially offset by higher rental revenue recorded in corporate overhead in the current period.As a reminder, this was previously recorded as a benefit in SG&A, and the prior year period. On approximately 27,000 square feet lease, as of today, we expect annualized straight-line rental revenue to total approximately $9.9 million in the fiscal 2024.Now turning to cash flow and the balance sheet. Net cash provided by operating activities was $13.1 million in the current quarter compared to $7.6 million in the prior period. Lower inventory spend in the quarter driven by lower freight and manufacturing costs compared to a year ago, improved working capital. We continue to manage inventory purchases substantially closer to our demand, resulting in sufficient inventory on hand and lower spend.Free cash flow used in the third quarter was $7.1 million compared to $11.9 million in the prior year period, reflecting lower working capital, partially offset by onetime severance costs. At the end of the quarter, cash and cash equivalents net of total debt was $78.9 million compared to $218.5 million at the end of fiscal 2023.In addition to investments in content and capabilities to drive growth, we continue to return capital to shareholders in the third quarter through our regular dividend and open market share repurchases. We repurchased 1.4 million shares in the third quarter for $54.2 million. Together with our regular dividend, we returned over $60 million in the third quarter, and $161 million so far this fiscal year.In fiscal 2024, thus far, we have repurchased 3.6 million shares, which net of 523,000 shares issued related to stock compensation represents 11% of the company’s shares outstanding. The company’s shares outstanding are now below 28 million.We do not anticipate our share repurchase program or regular dividend to be impacted by the investment in 9 Story, which we intend to initially fund from our available cash and revolving credit facility. Based on year-to-date results, we now are forecasting full year free cash flow of $55 million to $65 million. Given strong working capital management in the third quarter, total CapEx and pre-publication spending for the full year is still forecast to be $100 million to $110 million.Turning to the financial details of our investment in 9 Story. Upon closing, the transaction 9 Story will contribute significantly to Scholastic’s financial results and be fully consolidated with Scholastic Entertainment in a new reporting segment.9 Story recorded revenue of approximately $104 million in its most recent fiscal year ended August 31, 2023. 9 Story is comprised of four business units that provide capabilities across the entire IP life cycle, with majority of its revenue currently coming from its production work, both the creative service production work it does for other IP owners, including Scholastic, and productions for IP that it controls.On the basis of its compelling standalone business model, we expect 9 Story to contribute top and bottom line growth through its existing content library, best-in-class production studios, and global distribution and licensing capabilities. Adding in the synergy potential with Scholastic’s own IP and development work, we expect the deal to reduce the capital intensity of Scholastic’s own productions, allowing us to expand development of Scholastic IP and to drive long-term earnings accretion.As Peter noted, earlier, we acquired a 100% economic interest with minority voting rights in 9 Story for approximately USD186 million. This is a common deal structure in the Canadian media industry to ensure that 9 Story remains Canadian-controlled, and as such, remains eligible for production tax credits there, subject to approval by the Minister of Canadian Heritage, which is a condition of closing the transaction.Typical of these deals, voting control lies in a different class of shares, the majority of which will be held by the current Canadian management of 9 Story. Scholastic will have rights to approve certain key decisions related to the company’s business affairs and overall strategy, including changing the nature of the company’s business, the setting of annual budgets, and major investment in transactions.9 Story also has assets tax credits in Ireland for production that are based there. As Peter mentioned, 9 Story’s access to tax subsidies is a key advantage, enabling the company to achieve significantly higher margins on production, which otherwise Scholastic could not achieve. In addition to favorable margins, 9 Story’s ability to presell productions through their global sales and distribution team also de-risks project financing, which should enable Scholastic to pursue more production of its IP.I’ll also like to reemphasize how this investment, in addition to our actions to return capital to shareholders, aligns with our capital allocation strategy, which prioritize growth investments as I outlined earlier. We expect to initially fund the investment from our available cash and revolving credit facility.We are also maintaining our current dividend and have re-upped our share repurchase program as I just described. This deal is expected to close in Scholastic’s fiscal 2025 first quarter, which begins June 1, 2024.Turning to our outlook, as Peter noted, we are affirming our previously revised guidance for the fiscal year. As we head into our fourth quarter, which is typically our most profitable, we continue to target adjusted EBITDA of $165 million to 185 million. This excludes the impact of one-time charges of $10.6 million related to restructuring and acquisition activity incurred so far this year. We continue to expect full year revenue to be approximately level with, or slightly below, the prior year.Thank you for your time today, and I will now hand the call back to Peter for his final remarks.
Peter Warwick
Thank you, Haji. As you’ve heard on the call today, there’s an enormous amount of activity underway across the business. We’re driving momentum behind the trusted Scholastic brand and our children’s publishing and media franchises, helping to reach more kids and families with high-quality, engaging content that inspires learning on the page and screen, and driving long-term growth and shareholder value creation.I’m excited about the potential of our strategy, and the strength of execution underway across the businesses to reach our goal for long-term growth. Let me now turn the call over to Jeff.
Jeffrey Mathews
Thank you, Peter. We appreciate our investors’ time today and continuing support. With that, we will open the call for questions.
Question and Answer Session
Operator
Thank you.(Operator Instructions)Brendan McCarthy, Sidoti.
Brendan McCarthy
Hey, good afternoon, everybody. Thanks for taking my questions. Just wanted to start off in the consolidated trade area, it looks like sales were up 7%. Aolid growth there. Can you talk about the frontlist and backlist which contributed more to that growth?
Peter Warwick
We were particularly busy. We were particularly pleased with the performance over the holiday season. And on top of that, we did particularly well with a number of frontlist titles, particularly new graphic novels, which is a category that we are very much the market leader.So it was I mean, it was really a question of the titles and authors, which we have published on a regular basis, over a number of years. But also some some good new titles as well. So it was really a combination. It was both new and continuity in that respect.
Brendan McCarthy
Got it. And then looking quickly at gross margins, they were up nicely year-over-year. And how do you expect that trend to continue looking out the next couple fiscal quarters?
Haji Glover
Hey, Brendan, this is Haji. Thanks for the question. So as we’re looking right now with the cost of freight in our [COGS] line, you can see that we have a strong improvement year to date, roughly about $20 million year to date that we have saved in both our [COGS] and our inventory. It has really driven around our utilization. We’re basically back in line to pre-pandemic levels when it comes to our inventory levels, which is really driving the profitability in our gross margin section.
Brendan McCarthy
Got it. Thanks. That’s helpful. Turning to the book clubs business — another pretty large revenue decline there. But and can you offer some insight into the timing of the shrink to grow strategy there? Maybe over the next couple of quarters, when do you when do you expect the revenue variation to kind of normalize?
Peter Warwick
It’s a medium to longer-term project, Brendan, in terms of what we’re doing. What we’re thinking of doing is to have a smaller but more profitable business. And I would expect that it’s going to take some quarters before we get to the destination that we might ultimately want to be.But I’m reasonably confident that there is going to be an improvement quarter-over-quarter in terms of performance. What we’re doing at the moment is very much working right now on testing some new strategies for next year, so we hope will come in and will contribute very much to our medium to long-term plans.
Brendan McCarthy
Got it, got it. Thanks, Peter. Maybe one more question for me. Just to get the 9 Story investment. I know you mentioned you’re probably lower capital intensity business there looking out in the future, as well as certain tax advantages. But do you expect to see any integration costs or elevated costs from this investment over the next couple of quarters?
Haji Glover
We don’t expect to see a large number of integration costs. If anything, we’re looking to continue to let 9 Story’s workers direct, and find opportunities to bolt on things within that business. But right now, it’s very efficient, and we could continue to see that there’s potential opportunities for some synergies in the future.
Brendan McCarthy
Understood, Haji and Peter, thank you very much for the answers. I appreciate it. That’s all for me.
Haji Glover
Thank you, Brendan.
Operator
Thank you. And this concludes our Q&A. I will pass the call back to management for any closing remarks.
Peter Warwick
Well, thank you, operator, and thank you to all of those who joined us this afternoon. I wish you all a happy spring. And we look forward to engaging with our investors in the coming days, and to providing a further update on our progress, including our investments in 9 Story, and on our plan for fiscal 2025 in July on our year-end call. Thanks again. Goodbye.
Operator
Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect.
