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Pearson - lockdown recovery continues

Nicholas Hyett, Equity Analyst | 20 January 2021 | A A A
Pearson - lockdown recovery continues

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Pearson plc Ordinary 25p

Sell: 589.20 | Buy: 589.80 | Change 12.80 (2.22%)
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Pearson reported a 10% decline full year sales, as strong growth in the Global Online Learning division failed to offset weakness across the rest of the business. However, results have steadily improved over the course of the year. Fourth quarter sales rose 4% overall, boosted by good results in Online Learning and growth in Global Assessment.

The group now expects to report underlying operating profits for the full year of £310m-£315m, with cost savings partially mitigating effect of lower revenues.

The shares rose 5.5% in early trading.

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Our view

The closure of schools around the world means digital learning has never been more in demand, yet the extra attention has also highlighted how much work Pearson has left to do.

Digital courseware sales are potentially highly cash generative and higher margin than physical sales, while digital subscribers are potentially stickier. That would represent a significant improvement to earnings quality and if Pearson can deliver the transition, it would be a highly attractive proposition.

Virtual Schools and VUE Online Proctoring are particular beneficiaries of lockdown rules. Unfortunately, the fact revenues have slumped 10% shows just how much of the group's revenues are still anchored to pen and paper teaching. Demand for physical textbooks has been on the decline for years and that's made Pearson's pivot to digital protracted and painful.

To make matters worse even where Pearson has been able to grow sales, profits have failed to follow suit. At the last update, the cost of on-boarding new contracts and investing in new courses was far outweighing the extra sales in Global Online Learning. That might prove money well spent if customers hang around after lockdowns finish. But there's no guarantee those currently dipping their toes in online education for the first time will stay in the pool when more traditional alternatives become available.

The net result at the half year was a huge free cash outflow, offset by a final bout of asset sales. While that's meant Pearson's been able to sustain its dividend in the first half, it also means the group continues to slowly devour itself as it pours cash into an uncertain digital future.

A change at the helm at such a tough time would usually be a source of concern. However an experienced digital focused leader is likely just what's needed right now. Still the CEO Andy Bird will have his work cut out.

Fortunately Pearson has relatively modest level of debt - although with profits under pressure leverage looks set to increase significantly - and access to a substantial amount of cash. Management will hope that helps it ride out the storm, and gives it firepower to invest in growth going forward.

While the new wave of lockdowns was bad news for Pearson, the real test will come once the immediate crisis has passed. If the group can convince customers to stick with their digital shift then all the pain of the last few years will have been worth it. If not the group risks becoming a lesson in how not to handle the digital revolution.

Pearson key facts

  • Price/Earnings ratio: 17.0
  • 10 year average Price/Earnings ratio: 14.3
  • Prospective dividend yield (next 12 months): 2.3%

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Fourth Quarter Trading Update

Global Online Learning sales rose 18% for the year as a whole and 30% in the fourth quarter. Virtual Schools delivered a particularly strong result - with enrolments up 43% across a total of 43 schools. Online Program Management also showed signs of progress, with ongoing courses seeing enrolments rise 20% (although overall enrolments fell 7% due to discontinued courses).

The Global Assessment business saw sales fall 14% for the year as a whole, but rise 3% in the final quarter. The division benefited from pent up demand in the latter half of the year - following lockdowns in the first half. Online proctoring has seen growth, with full year assessments rising from 0.2m in 2019 to 2.1m in 2020.

Sales of North American Courseware fell 13% for the full year and 8% in the final quarter. That reflects particular weakness in sales of physical textbooks in the US Higher Education market, which fell over 40%.

International sales fell 19% in the full year and were flat in the final quarter. That reflects the closure of Australian Pearson Test of English test centres due coronavirus, and the impact of the virus on courseware sales. Sales in South Africa, Brazil and UK qualification business also suffered.

Cost savings of £60m were achieved in year, with a further £50m of savings on track for 2021. During the year the company completed the sale of its remaining stake in Penguin Random House, sold it's 20% earn-out stake in US KS12 Courseware and announced the disposal of its stake in the Pearson Institute of Higher Education in South Africa.

Pearson finished the year with net debt of £0.5bn and liquidity of £1.9bn.

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This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. 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.