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Pearson - Results in line, more strategic shakeups

Nicholas Hyett | 5 May 2017 | A A A
Pearson - Results in line, more strategic shakeups

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Pearson plc Ordinary 25p

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First quarter trading was in line with management expectations, with underlying sales up 6%. Alongside their results, Pearson announced plans for annual cost savings of £300m by the end of 2019, as well as further changes to the group's portfolio.

The shares rose 15% following the announcement.

Our View

Digital content is replacing paper the world over, and Pearson believes that will be the case in education too. The group is transforming itself from staid publishing house to trailblazer in the emerging world of digital education content.

To raise the cash required, the group has sold most of its media assets. The Economist and Financial Times newspapers have already gone, and Penguin Random House is soon to follow. CEO John Fallon was confident that the proceeds from these sales would mean Pearson could cover the costs of the restructure and maintain the dividend while still emerging a leaner and more profitable organisation.

This sounded like an excellent outcome for shareholders, but the sales removed the main safety net should there be a wobble. Against that background, Pearson's admission that the dividend will fall following weak trading in North America last year was particularly galling.

To be fair, rather than failure to get to grips with online specifically, this drop is more reflective of demand for educational resources declining generally. Pearson has responded by lining up some of its more traditional US education assets for sale, doubling down on its digital future.

Significant cost cuts are planned, which should bring the group closer to the robustly profitable, cash generative business investors were promised. However, its colours are now firmly nailed to the online education mast.

While we can see the rationale behind online education resources, moving online means competing with the mass of free content available on the web. Convincing a customer to continue paying for something they can get for free elsewhere is already proving difficult, and the group is slashing prices. It's an emerging industry so, all could yet change again, but Pearson is certainly not making it look easy.

For now, profit growth is far from assured, which is making the debt pile look increasingly burdensome. With the dividend cut the stock offers investors a prospective dividend of 4%this year.

First Quarter Results

Sales growth was led by a 7% uplift in US revenues. The key North American higher education courseware business has seen higher gross sales and lower returns than prior year. However the group still expect to be negatively impacted by market pressure in the second half. Digital virtual school business, Connections Education, saw revenues decline slightly as good growth in enrolment was offset by some partners choosing to take non-core services in-house.

Core markets (which includes the UK, Italy and Australia) saw revenues rise 10% with continued growth in Pearson Test of English, OPM and Clinical as well as some positive phasing, which the group expects to unwind in the remainder of the year.

Revenues were flat in Growth markets (including Brazil, China, India and South Africa), with good growth in China and South Africa offset by business exits in the Middle East and India.

The group is undertaking a strategic review of its US K12 courseware publishing business, which it describes as capital intensive and operating in a challenging competitive and market environment. Pearson plans to focus on its digital virtual school business, Connections Education, going forwards.

Discussions regarding the sale or recapitalisation of Pearson's stake in publishing group Penguin Random House are ongoing, as is the possible sale of English test preparation business Global Education.

The group have announced a £300m cost saving target by the end of 2019. Most of this will come from North America, adjusting the cost base to reflect the smaller higher education courseware business, and global back office functions.

Guidance for the full year remains unchanged, with operating profits expected to be between £570m and £630m, adjusted earnings per share of 48.5p to 55.5p and cash conversion in excess of 90%.

Unless otherwise stated, all estimated figures, including prospective dividend yields, are taken from a consensus of analyst forecasts compiled by Thomson Reuters. These estimates should not be taken as a reliable indicator of future performance.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.