Pearson PLC

LSE:PSON

Earnings Call Transcript 2019-Q1

[Operator]

Welcome to the Pearson 2019 Q1 Trading Update Conference Call. [Operator Instructions]. Just to remind you, this conference call is being recorded. I will hand the call to our host Coram Williams, CFO. Please begin.

[Coram Williams, CFO & Executive Director]

Thank you, Mark. Good morning, everybody, and thank you for joining us today for our Q1 trading update. I'm Coram Williams, and I'll start by giving you a brief overview of the quarter, which is our smallest of the year, before moving on to take your questions. In the next few minutes, I'm going to run through our guidance, sales performance and balance sheet. As you all have seen in this morning's release, overall trading was in line with our expectations. So I will keep my detailed comments short to leave more time for your questions. Our guidance for 2019 after adjusting for the benefit for IFRS 16 and the disposal of our U.S. K12 Courseware business remains unchanged. We expect to deliver adjusted operating profit of between GBP 590 million to GBP 640 million. On earnings the move to the IFRS 16 will increase interest from GBP 30 million to GBP 60 million and with a forecast tax rate of 21%, this equates to an expected adjusted earnings per share of 53.5p to 59.0p for 2019. This is all based on the exchange rates at the 31st December 2018. Turning to revenues in Q1. Total sales increased by 2% in underlying terms, with North America up 2%, Core up 4% and our Growth segment flat. In North America, while structural growth opportunities continued to perform well, Virtual Schools and OPM benefited from good enrollment growth and Pearson VUE saw good volume growth in key segments including IT, Healthcare and Teacher Certification. This was partly offset by U.S. Higher Education Courseware, where revenues declined slightly against a strong comparative in Q1 2018. Gross sales were down less than prior year as we continued to see the ongoing push of sales from Q4 into Q1. Returns continued to improve and were also lower than prior year. But this year we didn't have the phasing benefit that we had in 2018 as a result of the returns provision pop-up that we took in the first quarter of 2017. Excluding that phasing impact, the underlying performance in this business is stronger than it was this time last year. Our market share continues to be in the 40% to 41.5% range on the trailing 12-month basis, as we've talked about consistently over the last couple of years. So overall performance in U.S. Higher Education is consistent with our expectations and we continue to forecast revenues in this segment to be flat or down 5% for the full year in line with our earlier guidance. In Core, revenues grew 4% percent in underlying terms, helped by good growth in our structural growth opportunities, particularly Pearson Test of English Academic and OPM. And phasing in our Courseware business in the U.K. and Europe. In Growth, revenues were flat in Q1 2019 with consistent ordering patterns in our South African school courseware business offset by timing of orders in China and Brazil. We continue to expect growth in this segment in 2019 weighted towards the second half of the year. Moving now to our balance sheet. We've seen an underlying year-on-year improvement in our Q1 net debt position from GBP 0.6 billion to GBP 0.5 billion. You will recall, as communicated at our prelims, the adoption of IFRS 16 this year increases net debt and on an IFRS 16 basis, net debt was GBP 1.2 billion in Q1. We continue to expect our net debt to be a little lower than 2018 on an underlying basis at the end of this year. This does not include any cash impact from the ongoing and well-publicized EU investigation into UK state aid, which is yet to reach a firm conclusion. The strength of our balance sheet is reflected by both Moody's and Standard & Poor's rating agencies recently moving our outlook from negative to stable. So in summary, with building momentum in 2019, we're on track to release a suite of exciting new digital products and capabilities for the back to school period this year, which will continue to accelerate our move to digital. We had a strong start to the year and we continue to expect revenue to stabilize in 2019. A good execution of our strategic priorities are putting us on track to get Pearson growing again in 2020. And with that, I'll take your questions.

[Operator]

[Operator Instructions] Our first question comes from the line Nick Dempsey from Barclays.

[Nicholas Michael Edward Dempsey, Research Analyst]

I have got 3 questions. First of all, with Cengage -- yesterday, with their statements out, bullish on their growth in the quarter to end March. Including we are talking about the momentum in Cengage Unlimited. So are we looking at them potentially having gained share in the January selling season as a result of Cengage Unlimited? Or is that growth a function of how they recognize revenue or something like that? And the second question in terms of the suite of digital products that you are talking about launching, don't you need to be showing them to faculty right now in order to persuade them to mandate those products to be sold in September? So are they ready right now and are -- do your sales guys have them in their hands to show to faculty in this kind of adoption season?

[Coram Williams, CFO & Executive Director]

Thanks for the questions. In terms of Cengage Unlimited, so I can't comment on their numbers, but what I can tell you is that our market share is very robust. It's been in the 40% to 41.5% range throughout this quarter just like it has been over the last few years. And we are not seeing any impact in our market share from Cengage Unlimited. In terms of the digital products, and if you understand that as we develop digital products, we tend to run pilots with academics and sales forces for quite a long period of time and actually have been doing so. So there are pilot products which are being used in classrooms and which are in the hands of the sales force, with full commercial launch of Revel on the [ GLP ] and start in the middle of this year before back to school period.

[Operator]

Our next question comes from the line of Chris Collett, Deutsche.

[Christopher Anton Giles Collett, Research Analyst]

I just had 2 questions. One was just perhaps you could give us a little bit more color about the growth in OPM and in Virtual Schools, both suggesting North America? Even if you don't want to give us a specific number, could you help us whether is it growing high single digits, double digit, anything of that sort? And then second question was just as a -- couple of sort of phasing and timing issues. I mean, could you just walk through them again, one was just about the college textbook business? Could you just repeat your -- what you said, Coram, about the business being better this quarter than last year if we remove the various issues there? And then the second part of that was also within Growth. The Growth business being flat, but on a very, very weak comparables. Can you just sort of talk us through some of the moving pieces there?

[Coram Williams, CFO & Executive Director]

Sure, Chris. And -- Okay, so on OPM and Virtual Schools, obviously we don't disclose the details on those given that it's a quarterly trading update. But we are pleased with the growth rates which we are seeing in both of those businesses and given that we have said that growth will accelerate in both of those businesses compared to last year, you should assume high single digits is where they are. So -- and we put investment into both the Connections platform and also into the OPM business, and I think we're really seeing the benefits of that, and we're pleased with performance. It's one of the reasons -- key reason why the North American segment is up 2% and I think it's really important because it shows the momentum that we've got in our growth opportunities. In terms of phasing, you are right, there are a couple of phasing effects. So let me, sort of, pick them apart and give you a bit more color on each. From a Higher Ed courseware business, there are a couple of moving parts. So let's deal with each. In terms of Growth sales they're down, but they are not down as much as they were this time last year. And that's really important. We are seeing the shift from Q4 to Q1 and the direction of travel on gross sales has improved. Returns also continue to improve. So the net position for a comparative actually is a good one. The key point, though, is that in 2017, we had to undertake very significant returns provision top up in the aftermath of the inventory correction and that meant that 2017 was a fairly easy comparative and that drove the great trend that you saw in 2018. And we were clear about this in both 2018 and 2017. So it's a comparative challenge, but the underlying performance of the higher education business and the direction of travel actually this quarter is stronger than it was in Q1 in 2018 and that's really important. The other phasing point is Growth and you mentioned the weak comp in 2018. Again, I'm afraid I've to go back to 2017 to explain this. 2017 was a strong comp because we had big order in South Africa in Q1, which came significantly earlier than you would expect. And that meant Q1 in 2018 was down, but it's a much more normal order pattern. And we are consistent with that in South Africa this year. The thing that has held growth back from growing in the first quarter is 2 additional phasing effects. So there are delays in the timing of orders in China. We know they're coming in, but they have slipped out of Q1. And we also have differences on later timing of campaigns in our private language schools in Brazil. And both of those mean that there is a phasing benefit that will come later in the year in Growth. The growth in Growth will be second half weighted, and we are very clear that we will see it in the second half. So I hope that helps.

[Operator]

Our next question comes from the line of Matt Walker from Crédit Suisse.

[Matthew John Walker, Research Analyst]

The first question is on the Higher Ed. You say underlying ex the returns provision issue, it's better than it was last year in this quarter. Could you just give us a helpful steer on how much better; that will, that will be useful. The second thing is, can you say anything on North America for Clinical Assessment and Student Assessment, how those are going and how you expect them to go for the full year? And lastly, could you just explain a little bit more about the comment you made about state aid and the possible -- the investigation and the possible impact on that case?

[Coram Williams, CFO & Executive Director]

Sure. Okay, so in terms of higher education, I'm not going to put a number on it. You have to remember, as I mentioned in my script, this is a very small quarter for us. And the percentage point on our Higher Education business is only a couple of million pounds of revenue. So you should assume that all of this is relatively small in terms of the absolute count numbers. But the important point that I keep stressing, and I really want you to take away is that actually the direction of travel here is better than in Q1 of last year. Growth sales are down less, returns continue to improve, and we are right where we expect to be, exactly in line with expectations in that Higher Ed business. And the issue is the comp, not the current performance. In terms of the assessment businesses in North America. The Clinical Assessment, basically, this seems to have had a good start, they are in line with expectations. And Clinical, we would expect to continue to grow slightly. It's a business which typically is driven by new product releases, and we've got a couple coming this year. In terms of the Student Assessment business, which is obviously a bigger part of the North American business. As I think we said at the prelims, there is still a hangover from PARCC, which is working its way through the system. This is the last year where it will be a drag on our revenues, but it means that business will be down slightly year-on-year over last few months of 2018. And then finally on state aid, I think you're all aware that there is a EU investigation into a UK government-sponsored tax scheme which came in, in 2013. A number of multinationals -- U.K. based multinationals are impacted by this. The EU are challenging the scheme. There have been a series of announcements on it, but it is not crystal clear exactly where we stand right now. And therefore it's not possible to put a firm number on the exposure. We have said in our last few annual reports that if this were to found to be in contravention of EU rules and the maximum amount was paid, it would be around GBP 120 million, but to be clear that hasn't been confirmed and at the moment it could be anywhere between GBP 0 and GBP 120 million. In terms of net debt, we're very clear that pushing back to one side, which I think you have to do given it isn't clear what's happening yet, we will see a small underlying improvement in our net debt position.

[Operator]

Our next question comes from the line of Tom Singlehurst at Citi.

[Thomas A Singlehurst, Director and Head of European Media Research]

First question on U.S. Higher Ed. I appreciate the quarter it was around a bit -- as you said you're in danger of overextrapolating at the GBP 1 million or GBP 2 million move. So maybe something to ask would be on an overall sort of 12-month-rolling basis, unless we interpret your comments as the 12-month rolling U.S. Higher Ed courseware performance is better than the minus 5% you delivered across 2018, that was the first question. And second question on whether there's anything even qualitatively you can tell us about on early progress on the adoption processes. It feels like some -- there is no major share shift in the adoption process in the first half of -- from faculty it doesn't really matter what Cengage Unlimited is going to do in terms of [indiscernible] sure. [indiscernible] opportunities [indiscernible]. Any comment on the adoption process so far would be great. And then very finally, going back to the special launch of Revel whether we should have any -- have actual impact from that this year or is that a 2020 event?

[Coram Williams, CFO & Executive Director]

Thanks Tom. In terms of trailing 12 months, I mean if you can see it in the number we typically gave. I think though -- if you take a step back and think about my comments, what I'm saying is that the underlying performance of that business is better than it was this time last year. We're feeling good about the direction of travel. It is a small quarter though. And so it wasn't exactly in line with our expectations, our guidance is still 0% to minus 5%. And as we've said a number of times, you will -- you have to look at this in the round through the year. So absolutely in line with where we expect it to be, and no change to our guidance. But remember that it is a small quarter. In terms of the adoptions, we are just into the adoption season, so again you cannot make firm conclusions, but we're pleased with our competitive performance from what we are -- from the sort of intelligence that we're getting from the field. And I think it is consistent with where we would expect it to be. And then thirdly on Revel, so we are really excited about this. We have been investing in the global learning platform for a number of years and this will be the first commercial launch on that platform in time for back to school. And as you know these -- there is a round up to these launches. So it's significant because it will be the first product in the market commercially available on the platform. But in terms of revenues, it's more likely to have an impact in 2020 as the number of titles grows and we really gain traction with the products that have been launched on the platform.

[Thomas A Singlehurst, Director and Head of European Media Research]

And just -- I mean going back to the date you have given for the full year, you said you got 630,000 global registrations on Revel already. I mean is this a question of kind of switch and [indiscernible] certain way or is it a much slower process?

[Coram Williams, CFO & Executive Director]

It takes time. You launch a series of titles in this back to school period. There will be more titles over the ramp up in the January back to school period. And then you'd see us move the remaining volumes during the second half of 2020. So we do have to stage this to make sure that the platform is doing what we expect and that the [ key pack ] following the commercial launch is as we hoped. You will really see tangible evidence that this is crafted in the back to school period that's coming up.

[Operator]

And so no further questions. I'll hand back to Coram for closing comments.

[Coram Williams, CFO & Executive Director]

Thank you, Mark. And thank you, everybody. That concludes today's call. I really appreciate all of your questions. Please feel free to follow up with Jo, Tom, and Anjali if you have anything further. I think you know it's already GM later today, [ it would probably be ] ET in London. And John, I and the rest of the team will look forward to seeing any of you that are able to attend. If not, have a great weekend. Thank you.

[Operator]

This now concludes the conference. Thank you all very much for attending, you may now disconnect your lines.