SCHOLASTIC CORP 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) Effective June 1, 2021, the former “Education” reportable segment was renamed as the “Education Solutions” reportable segment, in connection with the consolidation of the segment’s multiple channels into a single Education Solutions group to allow for increased investment in digital learning and greater cross-selling opportunities across the entire segment’s portfolio of print and digital products. Overview and Outlook Revenues for the first quarter ended August 31, 2021 were $259.8 million, compared to $215.2 million in the prior fiscal year quarter, an increase of $44.6 million. The Company reported net loss per diluted share of Class A and Common Stock of $0.70 in the first quarter of fiscal 2022, compared to net loss of $1.16 in the prior fiscal year quarter. During the first quarter ended August 31, 2021, increased revenues were driven by the U.S. education and trade channels. Sales in the education channels were driven by the Company’s newly launched early childhood program, PreK On My Way TM , and summer learning product offerings. Trade publishing revenues grew on the strength of the Company’s series publishing and strong backlist titles, including Harry Potter ® box sets and limited edition foil cover Dogman ® books. Partially offsetting the revenue improvements was a reduction in sales in the International segment as countries around the world continued to encounter pandemic-related disruptions in their local markets. Operating loss improved over the prior fiscal year quarter as a result of the higher sales volume as the Company is beginning to recover from the pandemic, coupled with the continued benefits of the restructuring program executed in the prior fiscal year. The Company is currently experiencing increased demand for its products and programs as schools begin to re-open this fall with rising book club sponsorship and increased book fair bookings and expects sequential improvements in its school-based distribution channels in each quarter of the current fiscal year. The Company is well-positioned to meet expected demand in these channels, especially in its book fairs businesses in the U.S., Canada and the UK. Scholastic properties and titles continue to lead the market and the trade channel, including media, is expected to benefit from new releases including J.K. Rowling's new title, The Christmas Pig , and the second season of The Baby-sitters Club ® on Netflix, both targeted for release in October. In the education channel, the Company continues to closely monitor how federal stimulus funds will impact the overall K-12 education landscape and expects to benefit from a portion of this new spending. Internationally, the Company expects the lockdowns in Australia to lift and continues to explore growth through the expansion of Scholastic’s range of English language learning digital product offerings in Asia. However, inflationary pressures could impact paper, freight and other operating costs, while supply chain issues and potential labor shortages could adversely impact the Company's operating income through higher costs and/or revenue shortfalls. The Company expects positive operating leverage and cash flow generation despite inflationary and execution pressures on its supply chain and labor pools and the discontinuation of certain COVID-related government subsidies. The Company continues to identify further opportunities for incremental cost savings through process improvements and automation, consolidation of functions, and increased utilization of the Company’s international shared services resources. Results of Operations Consolidated Revenues for the quarter ended August 31, 2021 increased to $259.8 million, compared to $215.2 million in the prior fiscal year. The Children's Book Publishing and Distribution segment revenues increased by $23.5 million, primarily driven by higher trade channel revenues due to increased sales of backlist titles from best-selling series, which benefited from marketing and publicity activities for Harry Potter box sets and limited edition Dogman foil covers, as well as new releases of several frontlist titles, coupled with an increase in revenues in the school-based channels. In the Education Solutions segment, revenues increased by $26.5 million, primarily driven by higher sales of instructional products and programs, the Company's traditional classroom book collections and digital products. In local currency, the International segment revenues decreased by $9.0 million, primarily driven by lower revenues in Australia and New Zealand due to restrictions imposed by the COVID variant which were not in place in the prior fiscal year quarter, coupled with lower direct-to-home sales in Asia. International segment revenues were impacted by favorable foreign exchange of $3.6 million in the quarter ended August 31, 2021. 20 SCHOLASTIC CORPORATION Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) Components of Cost of goods sold for the three months ended August 31, 2021 and August 31, 2020 are as follows: Three months ended August 31, August 31, 2021 2020 ($ amounts in millions) $ % of Revenue $ % of Revenue Product, service and production costs $ 76.3 29.4 % $ 61.1 28.4 % Royalty costs 27.8 10.6 % 23.4 10.9 % Prepublication amortization 6.9 2.7 % 6.5 3.0 % Postage, freight, shipping, fulfillment and other 22.3 8.6 % 24.0 11.1 % Total $ 133.3 51.3 % $ 115.0 53.4 % Cost of goods sold for the quarter ended August 31, 2021 was $133.3 million, or 51.3% of revenues, compared to $115.0 million, or 53.4% of revenues, in the prior fiscal year quarter. The decrease in Cost of goods sold as a percentage of revenues was primarily driven by lower fixed costs on a higher revenue base in the domestic channels, partially offset by higher inventory reserves recognized in Canada, primarily in the book fairs channel. During fiscal 2022, Cost of goods sold will be negatively impacted by inflationary pressures such as higher costs due to shortages in labor and transportation and supply chain issues impacting paper and printing costs. Selling, general and administrative expenses in the quarter ended August 31, 2021 increased to $143.6 million, compared to $141.7 million in the prior fiscal year quarter. The $1.9 million increase was primarily attributable to higher employee related costs as the prior fiscal year quarter benefited from the temporary closure of book fair distribution facilities and employee furlough and reduced work week programs, which did not reoccur in the current fiscal year quarter. In addition, the Company recognized lower subsidies from COVID-related governmental retention programs in Canada, the UK, Australia and New Zealand which decreased by $4.3 million to $1.2 million as compared to $5.5 million in the prior fiscal year quarter. Partially offsetting this increase, the Company received $6.6 million of insurance recoveries in the current fiscal year quarter related to an intellectual property legal settlement accrued in fiscal 2021 and recognized lower severance expense, which included charges of $2.4 million and $12.0 million for the quarters ended August 31, 2021 and August 31, 2020, respectively, related to cost-reduction and restructuring programs. Depreciation and amortization expenses in the quarter ended August 31, 2021 were $14.9 million which were relatively consistent to $15.5 million in the prior fiscal year quarter. There were no significant changes to the assets in service in the first quarter of fiscal 2022. Net interest expense in the quarter ended August 31, 2021 was $1.3 million compared to $1.2 million in the prior fiscal year quarter. Net interest expense was relatively consistent as the Company had lower average debt borrowings with higher interest rates as compared to the prior fiscal year quarter. The Company expects Net interest expense to decline in future periods as a result of the lower debt balance resulting from the $100.0 million repayment at the end of the first fiscal year quarter and expected lower interest rates. Gain (loss) on sale of assets and other in the prior fiscal year quarter ended August 31, 2020 was $6.6 million. The company-owned facility located in Danbury, Connecticut was sold in the prior fiscal quarter which resulted in a gain on sale. The Company’s effective tax rate for the quarter ended August 31, 2021 was 26.7%, compared to 23.2% in the prior fiscal year quarter. Net loss attributable to Scholastic Corporation for the quarter ended August 31, 2021 decreased by $15.6 million to $24.2 million, compared to Net loss of $39.8 million in the prior fiscal year quarter. Loss per basic and diluted share of Class A and Common Stock was $0.70 and $0.70, respectively, for the fiscal quarter ended August 31, 2021, compared to loss per basic and diluted share of Class A and Common Stock of $1.16 and $1.16, respectively, in the prior fiscal year quarter. Net loss attributable to noncontrolling interest for the quarter ended August 31, 2021 was $0.2 million compared to net income attributable to noncontrolling interest of less than $0.1 million in the prior fiscal year quarter. 21 SCHOLASTIC CORPORATION Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) Children’s Book Publishing and Distribution Three months ended August 31, August 31, $ % ($ amounts in millions) 2021 2020 Change Change Revenues $ 115.8 $ 92.3 $ 23.5 25.5 % Cost of goods sold 66.1 56.1 10.0 17.8 % Other operating expenses (1) 71.4 65.2 6.2 9.5 % Operating income (loss) $ (21.7) $ (29.0) $ 7.3 25.2 % Operating margin — % — % (1) Other operating expenses include selling, general and administrative expenses, bad debt expenses and depreciation and amortization. Revenues for the quarter ended August 31, 2021 increased by $23.5 million to $115.8 million, compared to $92.3 million in the prior fiscal year quarter. The increase in segment revenues was primarily driven by higher trade channel revenues of $19.7 million due to increased sales of backlist titles from best-selling series, which benefited from marketing and publicity activities for Harry Potter box sets and limited edition Dogman foil covers, and new releases from the Company's popular series, including The Baby-sitters Club ® Graphix TM and Baby-sitters Little Sisters ® Graphix TM , Five Nights at Freddy’s TM , The Bad Guys TM and Nat Enough TM , coupled with the continued success of Alan Gratz’s Refugee and Ground Zero and Pam Munoz Ryan’s Esperanza Rising. In addition, sales increased for specialty products within the Company's Klutz division, as well as the Make Believe Ideas TM business, which included the launch of a plush product line, Sensory Snuggables TM . Book fairs channel revenues increased $2.8 million as a result of higher revenue per fair and book clubs channel revenues increased $1.0 million driven by an increase in the number of teacher sponsors. Book fair bookings are expected to improve each sequential season as schools re-open, with bookings for the current fall season substantially ahead of last spring. Cost of goods sold for the quarter ended August 31, 2021 was $66.1 million, or 57.1% of revenues, compared to $56.1 million, or 60.8% of revenues, in the prior fiscal year quarter. The decrease in Cost of Goods sold as a percentage of revenue was primarily attributable to lower fixed costs on a higher revenue base, partially offset by higher royalty costs associated with increased trade channel revenues. Other operating expenses for the quarter ended August 31, 2021 increased to $71.4 million, compared to $65.2 million in the prior fiscal year quarter. The $6.2 million increase was primarily attributable to higher employee related costs as the prior fiscal year quarter benefited from the employee furlough and reduced work week programs as well as the temporary closure of book fair distribution facilities, all of which did not reoccur in the current fiscal year quarter. Segment operating loss for the quarter ended August 31, 2021 was $21.7 million, compared to $29.0 million in the prior fiscal year quarter. The $7.3 million improvement was primarily driven by the increased revenues across all channels, primarily in the trade channel, partially offset by higher employee-related costs due to the absence of furlough and reduced work week programs that benefited the prior fiscal year quarter. Education Solutions Three months ended August 31, August 31, $ % ($ amounts in millions) 2021 2020 Change Change Revenues $ 80.1 $ 53.6 $ 26.5 49.4 % Cost of goods sold 32.8 22.8 10.0 43.9 % Other operating expenses (1) 40.0 33.2 6.8 20.5 % Operating income (loss) $ 7.3 $ (2.4) $ 9.7 NM Operating margin 9.1 % — % (1) Other operating expenses include selling, general and administrative expenses, bad debt expenses and depreciation and amortization. NM Not meaningful Revenues for the quarter ended August 31, 2021 increased to $80.1 million, compared to $53.6 million in the prior fiscal year quarter, resulting in an increase of $26.5 million. The increase in segment revenues was primarily driven by higher sales of instructional products and programs, including the newly launched PreK On My Way , 22 SCHOLASTIC CORPORATION Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) an early childhood program, and the Company's summer learning product offerings and Leveled Bookroom, coupled with increased sales of the Company's traditional classroom book collections and digital products. The revenue increase was partially offset by lower revenues from the Company's teaching resources business, which benefited in the prior fiscal year quarter as parents used these products to supplement remote and hybrid learning resulting from COVID-19. The Company anticipates federal stimulus funds to be utilized by schools during the 2021/2022 school year to help students accelerate their learning post-pandemic. Cost of goods sold for the quarter ended August 31, 2021 was $32.8 million, or 40.9% of revenues, compared to $22.8 million, or 42.5% of revenues, in the prior fiscal year quarter. The decrease in Cost of goods sold as a percentage of revenues was primarily attributable to lower fixed costs on a higher revenue base, coupled with favorable product mix from higher digital sales. Other operating expenses for the quarter ended August 31, 2021 increased to $40.0 million, compared to $33.2 million in the prior fiscal year quarter. The increase in Other operating expenses was primarily related to higher employee-related costs as the prior fiscal year quarter benefited from employee furlough and reduced work week programs that did not reoccur in the current fiscal year quarter. Segment operating income for the quarter ended August 31, 2021 was $7.3 million, compared to an operating loss of $2.4 million in the prior fiscal year quarter. The $9.7 million improvement was primarily driven by higher revenues of instructional products and programs, traditional classroom book collections and digital products, partially offset by increased employee-related costs due to the absence of furlough and reduced work week programs that benefited the prior fiscal year quarter. International Three months ended August 31, August 31, $ % ($ amounts in millions) 2021 2020 Change Change Revenues $ 63.9 $ 69.3 $ (5.4) (7.8) % Cost of goods sold 36.1 37.1 (1.0) (2.7) % Other operating expenses (1) 29.5 27.4 2.1 7.7 % Operating income (loss) $ (1.7) $ 4.8 $ (6.5) NM Operating margin — % 6.9 % (1) Other operating expenses include selling, general and administrative expenses, bad debt expenses, severance and depreciation and amortization. NM Not meaningful Revenues for the quarter ended August 31, 2021 decreased to $63.9 million, compared to $69.3 million in the prior fiscal year quarter. Local currency revenues across the Company's foreign operations decreased by $9.0 million, partially offset by favorable foreign exchange of $3.6 million. Australia and New Zealand local currency revenues decreased $4.4 million, primarily in the trade and book clubs channels, due to restrictions from the COVID variant which were not in place in the prior fiscal year quarter. In Asia, local currency revenues decreased $2.9 million primarily driven by lower direct-to-home sales as a result of the continued impact of the pandemic. In Canada, local currency revenues decreased $0.9 million primarily due to lower trade channel revenues. In the UK, local currency revenues decreased by $0.5 million primarily due to lower co-edition and specialty sales. In addition, export channel revenues decreased $0.3 million as compared to the prior fiscal year quarter. Cost of goods sold for the quarter ended August 31, 2021 was $36.1 million, or 56.5% of revenues, compared to $37.1 million, or 53.5% of revenues, in the prior fiscal year quarter. The increase in cost of goods sold as a percentage of revenue was driven by higher inventory reserves recognized in Canada, primarily in the book fairs channel. Other operating expenses for the quarter ended August 31, 2021 were $29.5 million, compared to $27.4 million in the prior fiscal year quarter. Other operating expenses increased $2.1 million primarily driven by lower government subsidies related to COVID-related governmental retention programs in Canada, the UK, Australia and New Zealand which decreased by $4.3 million to $1.2 million as compared to $5.5 million in the prior fiscal year quarter. This increase was partially offset by lower severance expense related to restructuring programs which decreased by $0.6 million to $0.4 million compared to $1.0 million in the prior fiscal year quarter. 23 SCHOLASTIC CORPORATION Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) Segment operating loss for the quarter ended August 31, 2021 was $1.7 million, compared to operating income of $4.8 million in the prior fiscal year quarter. Total local currency operating results across the Company's foreign operations decreased $6.4 million, primarily driven by lower revenues, coupled with lower subsidies from COVID-related governmental employee retention programs. Overhead Unallocated overhead expense for the quarter ended August 31, 2021 decreased by $14.5 million to $15.9 million, from $30.4 million in the prior fiscal year quarter. The decrease was primarily attributable to lower severance expense related to restructuring programs, which decreased by $9.0 million to $2.0 million, compared to $11.0 million in the prior fiscal year quarter, coupled with $6.6 million of insurance recoveries received in the current fiscal year quarter related to the intellectual property legal settlement accrued in fiscal 2021. The decrease was partially offset by higher employee-related costs as the prior fiscal year quarter benefited from employee furlough and reduced work week programs that did not reoccur in the current fiscal year quarter. Seasonality The Company’s Children’s Book Publishing and Distribution school-based book club and book fair channels and most of its Education Solutions businesses operate on a school-year basis; therefore, the Company’s business is highly seasonal. As a result, the Company’s revenues in the first and third quarters of the fiscal year generally are lower than its revenues in the other two fiscal quarters. Typically, school-based channels and magazine revenues are minimal in the first quarter of the fiscal year as schools are not in session. Education channel revenues are generally higher in the first and fourth quarters. Trade sales can vary throughout the year due to varying release dates of published titles. Presently, there remain uncertainties concerning the timing of and any patterns which may emerge with respect to school instruction, whether in-school, remote or hybrid for the school year, and the nature and continuing magnitude of the negative impact of COVID-19 into and beyond the second quarter of fiscal 2022. Liquidity and Capital Resources Cash provided by operating activities was $63.6 million for the three months ended August 31, 2021, compared to cash used in operating activities of $26.0 million for the prior fiscal year period, representing an increase in cash provided by operating activities of $89.6 million. The increase in cash provided was primarily driven by the federal income tax refund of $63.1 million and $6.6 million of insurance recoveries related to the intellectual property legal settlement, both received in the current fiscal year quarter, coupled with lower inventory purchases as a result of improved inventory management. Cash used in investing activities was $14.5 million for the three months ended August 31, 2021, compared to cash used in investing activities of $8.9 million in the prior fiscal year period, representing an increase in cash used in investing activities of $5.6 million. The increase in cash used was driven by the net proceeds from the sale of the Danbury facility of $12.3 million which benefited the prior fiscal year quarter, partially offset by lower capital expenditures of $5.8 million in the quarter ended August 31, 2021 as the Company continued to limit spending to strategic investments in key growth areas of the business and in technology, both internal and customer-facing, to allow it to operate with greater efficiency. Cash used in financing activities was $105.6 million for the three months ended August 31, 2021, compared to cash used in financing activities of $5.3 million for the prior fiscal year period, representing an increase in cash used in financing activities of $100.3 million. The increase in cash used is primarily related to a repayment of borrowings under the U.S. loan agreement of $100.0 million during the quarter ended August 31, 2021. Cash Position The Company’s cash and cash equivalents totaled $308.6 million at August 31, 2021, $366.5 million at May 31, 2021 and $355.5 million at August 31, 2020. Cash and cash equivalents held by the Company’s U.S. operations totaled $271.9 million at August 31, 2021, $318.0 million at May 31, 2020 and $323.7 million at August 31, 2020. 24 SCHOLASTIC CORPORATION Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) Due to the seasonal nature of its business as discussed under “Seasonality” above, the Company usually experiences negative cash flows in the June through October time period. As a result of the Company’s business cycle, borrowings have historically increased during June, July and August, have generally peaked in September or October, and have been at their lowest point in May. As a precautionary measure in the context of the COVID-19 pandemic, the Company accessed its committed bank credit facility in the fourth quarter of fiscal 2020 by taking a U.S. dollar LIBOR-based advance for $200.0 million. During fiscal 2021, the Company paid down $25.0 million of the borrowing and, during the first quarter of fiscal 2022, the Company paid down $100.0 million of the borrowing, resulting in $75.0 million outstanding as of August 31, 2021, which is classified as current. There is no immediate working capital requirement, but the Company will continue to evaluate the borrowing position during the fiscal year. On December 16, 2020, the U.S. loan agreement was amended, which, among other things, included adjustments to certain covenant thresholds and reduced the borrowing limit from $375.0 million to $250.0 million. See Note 4 of Notes to the Financial Statements - Unaudited in Item 1, "Financial Statements" for more information concerning the amended U.S. loan agreement. The Company’s operating philosophy is to use cash provided by operating activities to create value by paying down debt, reinvesting in existing businesses and, from time to time, making acquisitions that will complement its portfolio of businesses or acquiring other strategic assets, as well as engaging in shareholder enhancement initiatives, such as share repurchases or dividend declarations. The Company has lifted the temporary suspension of its open-market buy-back program under which $67.3 million remained available for future purchases of common shares as of August 31, 2021. The Company has maintained, and expects to maintain for the foreseeable future, sufficient liquidity to fund ongoing operations, including working capital requirements, pension contributions, postretirement benefits, debt service, planned capital expenditures and other investments, as well as dividends and share repurchases as appropriate in the context of COVID-19 considerations. As of August 31, 2021, the Company’s primary sources of liquidity consisted of cash and cash equivalents of $308.6 million, cash from operations and the Company's loan agreements in the U.S. and the UK. As indicated above, the U.S. loan agreement was amended on December 16, 2020, which reduced the borrowing limit from $375.0 million to $250.0 million. The Company expects the amended U.S. loan agreement to provide it with an appropriate level of flexibility to strategically manage the business operations. The Company's amended U.S. loan agreement and its loan agreements in the UK total $261.8 million, less borrowings of $82.1 million and commitments of $0.4 million, resulting in $179.3 million of availability. Additionally, the Company has short-term credit facilities of $37.9 million, less current borrowings of $7.4 million and commitments of $3.9 million, resulting in $26.6 million of current availability at August 31, 2021. Accordingly, the Company believes these sources of liquidity are sufficient to finance its currently anticipated ongoing operating needs, as well as its financing and investing activities, taking COVID-19 into consideration. 25 SCHOLASTIC CORPORATION Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) Financing The Company is party to the U.S. loan agreement, the UK loan agreements and certain credit lines with various banks as described in Note 4 of Notes to Condensed Consolidated Financial Statements - unaudited in Item 1, “Financial Statements." The Company had $75.0 million in outstanding borrowings under the U.S. loan agreement as of August 31, 2021, which are classified as current. As indicated above, on December 16, 2020, the Company entered into the Amendment to the U.S. loan agreement which included temporary covenant relief and a reduction in the maximum commitments. On September 23, 2019, Scholastic Limited UK entered into a term loan agreement to borrow £2.0 million to fund a land purchase in connection with the construction of the new UK facility in Warwickshire. The loan has a maturity date of July 31, 2022. As of August 31, 2021, the Company had $2.8 million outstanding on the loan. On January 24, 2020, Scholastic Limited UK entered into a term loan facility with a borrowing limit of £6.6 million to fund the construction of the new UK facility in Warwickshire. The loan has a maturity date of July 31, 2022. As of August 31, 2021, the Company had $4.3 million outstanding on the loan. New Accounting Pronouncements Reference is made to Note 1 of Notes to Financial Statements - unaudited in Item 1, “Financial Statements,” for information concerning recent accounting pronouncements since the filing of the Company’s Annual Report on Form 10-K for the fiscal year ended May 31, 2022. 26 SCHOLASTIC CORPORATION Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) Forward Looking Statements This Quarterly Report on Form 10-Q contains forward-looking statements. Additional written and oral forward-looking statements may be made by the Company from time to time in Securities and Exchange Commission ("SEC") filings and otherwise. The Company cautions readers that results or expectations expressed by forward-looking statements, including, without limitation, those relating to the Company’s future business prospects and strategic plans, ecommerce and digital initiatives, new product introductions, strategies, new education standards, goals, revenues, improved efficiencies, general costs, manufacturing costs, medical costs, potential cost savings, merit pay, operating margins, working capital, liquidity, capital needs, the cost and timing of capital projects, interest costs, cash flows and income, are subject to risks and uncertainties, including, in particular, how the foregoing may be affected by developments in the context of the current COVID-19 pandemic and measures or responses of governmental authorities, school administrators, business suppliers or customers, which may have an impact on the Company's operations and could cause actual results to differ materially from those indicated in the forward-looking statements, due to factors including those noted in the Annual Report and this Quarterly Report and other risks and factors identified from time to time in the Company’s filings with the SEC. The Company disclaims any intention or obligation to update or revise forward-looking statements, whether as a result of new information, future events or otherwise. 27 SCHOLASTIC CORPORATION