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Pearson - underlying revenue rises as online makes its mark

George Salmon | 26 April 2019 | A A A
Pearson - underlying revenue rises as online makes its mark

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Pearson plc Ordinary 25p

Sell: 589.20 | Buy: 589.80 | Change 12.80 (2.22%)
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Pearson has reported a 2% rise in underlying first quarter revenues. The group says it remains on track to deliver planned cost savings this year, and has left adjusted operating profit forecasts unchanged at £590m to £640m.

The shares were largely unmoved on the news.

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Our view

Digital is replacing paper the world over, and Pearson believes that will be the case in education too.

With this in mind, the group is transforming itself from staid publishing house to trailblazer in the emerging world of digital education content.

An online subscription model would bring attractive recurring revenues, no longer needing to produce a physical product reduces costs, and the requirement for customers to have a unique username and password restricts the second-hand market.

As part of the restructure, publishing assets like The Economist and Financial Times have been sold, and a chunk of Penguin Random House has followed them out the door.

While sharpening the group's focus on education, the sales also removed the safety net should things go wrong. Cue an unprecedented decline in the US higher education market forced the dividend to be slashed.

The group's net debt is currently under a third of cash profits, and earnings comfortably cover the payout. So to us, the rebased payment looks sustainable. But the prospective yield is a relatively lowly 2.3%. That means Pearson will need to meaningfully grow the dividend, not just maintain it.

Recent updates have brought some positive news. US courseware remains a tough market, but we're getting significant growth in the digital sphere, and that's dragging the group's most important geography back into growth.

Competition from free online alternatives is having less of an impact than the group had expected, and much less than sceptics had feared. All that means group profits should start rising again this year.

Nonetheless, we'd hesitate to say the shift has been vindicated just yet. Not only does the group still need to prove it can establish itself in this new sector, it'll need to prove it can do so in a robustly profitable way, which will mean fending off competition from free educational resources.

The rewards could be great, but a few things need to go Pearson's way for it to emerge in a strong position.

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Q1 trading details

In North America, trends in the higher education courseware market remain negative, although good growth in Online Program Management (OPM) and Virtual Schools ensured underlying revenue rose 2%. The sale of the K12 courseware business was finalised during the quarter.

The Core segment, which includes the UK, Australia and Italy, saw revenue rise 4% in underlying terms, helped by good growth in English tests and Academic and OPM courses.

Underlying revenue was flat in Growth markets, which include China, Brazil, South Africa and India, impacted by the timing of orders in China and Brazil. Looking ahead to the full year, the group expects a stronger second half to drive top line growth.

Including the group's lease obligations net debt was c.£1.2bn, which represents an underlying fall of around £100m year-on-year.

CEO John Fallon said "we are bringing exciting new products and capabilities to market in 2019 which will continue to accelerate our move to digital. We expect our sales to stabilise this year and to increase our underlying profit further."

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Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

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.