Q1 2021 Houghton Mifflin Harcourt Co Earnings Call
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Good day, and thank you for standing by and welcome to the H and each first quarter 2021 earnings conference call. At this time all participants are in a listen only mode. After the speaker's presentation. There will be a question and answer session to ask the question. During the session you will need of press star one on your telephone if you require any further assistance.
Please press Star then zero I would now like to hand, the conference over to your speaker today.
Senior Vice President of Investor Relations, Brian Shipman. Please go ahead.
Thank you and good morning, everyone before we begin I would like to point out that the slides referred to on today's call can be found on the Investor Relations section of our website at H M. H C O dot com.
A replay of today's call will be available until may 15th 2021, and the webcast will be available on our website for one year.
Our 10-Q was also filed earlier this morning, along with our first quarter of 2021 earnings press release.
Before we discuss our results I encourage you to review the cautionary statement on slide two for our customary disclosures.
Further information can be found and our regular SEC filings in.
In addition, please refer to the appendix and our slide presentation for a reconciliation of our non-GAAP measures to the most directly comparable GAAP measures, which is also posted to the HMH Investor Relations website.
This morning, Jack Lynch, Hmh's, President and Chief Executive Officer, and Joe Abbott Hmh's, Chief Financial Officer will provide a company update as well as an overview of the company's first quarter of 2021 results.
After our prepared remarks, we will open the call the questions. During the Q&A. Please limit yourself to one question plus one follow up you may get back into the queue. If you have additional questions.
Now I'll turn the call over to Jack.
Thanks, Brian and good morning, everyone.
Today I'd like to briefly walk you through the results for our first quarter.
And in the wake of our divestment of the HMH books <unk> media.
I would like to devote a good portion of our time this morning to our strategy as the K 12 learning technology pure play and.
And how we believe HMH is uniquely positioned for growth and the Joe will discuss our financial strategy and cover our financial performance for the quarter.
Starting with Q1.
The headline is we're off to a very solid start we.
We delivered billings growth of 11%, we achieved trailing 12 months free cash flow of $72 million and improvement of $77 million over Q1, 2020.
We advanced our digital first connected strategy and achieved 80% growth and annual recurring revenue year over year as well as of 142% net retention for our subscription business and the trailing 12 months.
During the quarter. We're also pleased to have strengthened our platform and technology leadership bench with fantastic new appointments.
Collins, a software veteran who comes to US rapid seven and Intuit will lead product management and strategy for our Ed platform and.
And several of my he magis has been promoted to Chief information Security Officer.
These enhancements to our leadership team and reinforce our commitment to building innovative solutions that deliver successful outcomes for students and teachers in all learning environments.
At the end of Q1, we announced a definitive agreement to sell HMH books, <unk> media to Harper Collins for $349 million, we expect to complete the transaction and the second quarter and we will use the net proceeds to further pay down our debt.
And you'll hear from Joe we're in an incredibly strong financial position within the enhanced credit profile and balance sheet.
Now given the materiality of the central funding of K 12 schools for COVID-19 recovery of.
And one spend a few minutes outlining how the funding will impact the market, we serve and HMH.
First in total there is one time federal stimulus funding for K 12 education of $200 billion.
$127 billion of which came and the recently approved American rescue plan.
And this would be spent over three years for context annual spending on K 12 education in a normal year is $740 billion. So equally spread over the next three years the $200 billion is about $67 billion a year or nine.
And 1% of the total K 12 spend.
Allowable uses of federal funds are flexible open ended education.
Technology, and health and safety measures physical improvements addressing learning loss and other activities necessary to maintain school operations.
At least 25% of the American rescue plan funds. That's the $127 billion recently approved must be used to address learning loss and provide opportunities for extended learning, including summer and Richmond as well as before and after school programs.
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For HMH, our emphasis and supporting schools and Copa recovery will be intervention programs to help educators and close the gap created by the most challenging year and education.
Importantly, our leading intervention solutions can help students gain up to two years of growth and one year.
Here's just one example of a school district, and making great progress with our interventional solutions during an incredibly challenging year and Paulding School district halfway through this year.
25% of students achieved double their expected annual growth in reading and 49% have already met their year end growth goals and 31% improved their expected college and career readiness performance level.
We believe we have a great set of intervention solutions to address the extraordinary challenges educators face as a result of the interrupted learning caused by COVID-19.
In the guidance, we provided back in February of this year, we considered the impact of the funding that was being proposed and ultimately passed and the American rescue plan in March.
That's our first quarter results and Joe will take you through the financials and a bit but before he does and I want to pivot and share more with you about how we're thinking about our digital first connected strategy, particularly given the HMH books and media divestiture, which is a transfer.
Some of the transaction for HMH.
We're now singularly focused on K 12 learning technology.
There are three key messages I'd like you to takeaway from this strategy discussion first.
HMH is the learning technology leader and a large growing market.
Second we are of highly differentiated from our competition by our platform, our organizational capabilities and our purpose driven culture share.
We have a clear strategy and place the intercept a growing share of the <unk> expanding market.
These are the key messages now let's get into it.
First we'll start with the market then show you how we differentiate ourselves in this large market. One is our growth strategy and what is our financial strategy beginning with our market.
I don't need to remind any of you how massive and the opportunity. The U S. K 12 market is 54 million students in the U S of 115000 schools $740 billion spent in the sector annually greater than $10 billion spent on instructional.
Cheerios and student enrollment and K 12 schools is projected to increase by one 6% from 2016 to 2028 of them.
The large market for instructional materials.
Here you can see that digital is growing at a CAGR of six 6% and in 2020 grew 4%, while print decline decline 13%.
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Digital save teachers' time, it helps teachers easily assess great and track student achievement and finally, it helps to personalize instruction.
And within that large growing market HMH is the largest learning technology company in the sector with a presence and 90% of the schools.
179% growth and our digital platform and 250 software engineers over 80% growth in subscription annual recurring revenue and numerous awards recognizing our role as an innovator in the K 12 market.
But being the learning technology leader is not just about technology, it's creating and implementing programs to improve sooner and achievement.
Here are just a few examples of how we bring about customer success.
And the Ann Arbor School district students using system 44, and grade three through eight average a significant gain of three points and total fluency on the phonics inventory and New York State a four month study showed that diverse populations of students in grades three through six made statistically significant.
Gains using Lucy Calkins units of study.
And Savannah, Chatham over a three month period students read over 70 <unk>.
75000 minutes with the mirror and have doubled the reading fluency achieving double the progress of those not using the program.
And we have scores of these customer success stories because of the premium replace on evidence based programs that are proven to work.
Finally, one last comment on market attractiveness.
Each of the market segments. We serve is large and while we are the largest company and K 12 by far we have a lot of room to grow with only 10% of the total addressable market that is exciting potential.
The opportunity for growth is exciting, but as you know there are a lot of companies in the K 12 industry volume for customers.
So what sets us apart from our competition.
Our key Differentiators three things when taken together.
We ate a highly differentiated company.
The platform supporting a comprehensive portfolio organs.
Organizational capabilities designed to achieve customer success and.
And finally, a purpose driven culture.
First differentiator HMH is the market's most comprehensive solution.
Only HMH provides a full portfolio of integrated solutions purpose built from the teaching and learning of all students core supplemental intervention services and assessment.
Most of our competitors provide a piece or two of the puzzle, but not the entire solution.
That's okay and the print world.
But and digital chaos with the need to exchange data and of user experience that makes it simple to go from a core to our supplemental solution without feeling like you're driving down of Super Highway until you reach a patch of dirt road.
Increasingly as the demand for digital grows the need for one platform to serve all students will become clear.
That's the first differentiator the attached HMH apart from our competition the only comprehensive one.
One stop solution.
The second differentiator is simply our emphasis on customer success, which in K 12 is all about improving student achievement for.
And for HMH, it's the combination of proven to work programs.
With the teacher training and customer support and learning the analytics all designed to help teachers use our solutions to produce great outcomes.
The third major differentiator is our purpose driven culture.
We do work that matters. When you had the incredibly talented people who are drawn to HMH not only because of what we say our values are up because of what we do.
We are authentically purpose driven.
And you can see that and the time, we volunteer to give back to our communities and schools you can see that and employee research resource group participation you can see that in our care for the environment you can see that in our culture and response of content.
Good people, who care about the social impact day hands on the education of our nation's children.
So to summarize our differentiators.
HMH has a comprehensive solution.
Evidence based programs centered on customer success, and a purpose driven culture taken together. This is what sets us apart from our competitors and the K 12 market.
So how do we execute a strategy to grow our share of the market and thereby increase our social impact increase the double bottom line.
That's our digital first connected vision, which has three pillars.
First growing our digital first connected business.
Deepening customer engagement and increasing customer outcomes and third optimizing our digital transformation, let's take these one at a time.
Digital first this is recognition that the value proposition of digital products and platforms is gaining broad acceptance and you can see that in our numbers of 179% growth and Ed usage, 80% growth and AOR.
It is important for us to shift our revenue mix of the digital not merely because we need to support growing demand from educators of peak.
Cause of the tangible benefits and savings teacher's time assess.
Assessing and monitoring student achievement and personalizing instruction today, 42% of our portfolio is now digital.
Part two of digital first connected is connected leveraging our scale to benefit both our customers and our shareholders for our customers teachers and kids and their class debt range across the achievement spectrum and ability having.
Having one platform to go to with one way to assign work and one way to measure of student mastery, and one platform true, which intervention products and exchange data with core products and vice versa.
That's what teachers want less time, managing the software and the data and more time with their students and for our shareholders. When we use one sales force to sell the entire product portfolio, we can cross sell and upsell to get a larger share of the $200 per year.
Year per student and structural spend.
Now.
Whereas we will see a shift and a mix of print to digital and grow our digital first connected pillar of our strategy. We are driving a shift in the mix of our nonrecurring revenue to recurring revenue as more and more of our customers rent our products versus buying our products in the deepened customer.
The engagement colored bar strategy.
We want more renters and also known as subscribers, giving us less top line volatility and more valuable recurring SaaS business to grow annual recurring revenue, we delivered great user experiences and great outcomes for our customers and ultimately deepen customer engagement.
The HMH.
That is our second strategic pillar.
The third pillar of our strategy is optimizing our digital transformation.
Key to that is decreasing our variable cost as we deliver more and more of our product and digitally and reducing our fixed cost as we automate our internal operations.
Becoming even more agile and responsive to the needs of our customers.
So that's the strategy and.
And what's the incredibly powerful about <unk> is that we have multiple paths to grow our share with a more than $10 billion market and simultaneously extend the impact we can have on student achievement.
With that I'd like to turn it over to Joe to discuss our financial priorities supporting our strategy and then he'll run through the numbers for Q1 Joe.
Thanks, Jack and good morning, everyone.
We've outlined three financial priorities to guide our team's execution and focus.
The first is maintaining our strong balance sheet.
Our target leverage ratio is less than 2.0 times trailing 12 months of adjusted EBITDA.
We have already taken a number of steps to reduce our gross debt, including the announced sale of HMH books, <unk> media and we've reduced our leverage ratio to less than two seven times for the trailing 12 months ended March 31 of this year, giving pro forma effect of the plan the paydown of debt with the net proceeds of that transaction.
While we may on occasion add debt, resulting in leverage ratios above the 2.0 times target our intent is to rapidly deleverage the two below this level.
As you May have seen we recently received a ratings upgrade from Moody's, which is an important validation of our ongoing work to establish HMH is of pure play of K 12, learning technology company with a robust and sustained ability to generate free cash flow.
On the heels of our debt Paydown. We also look forward to opportunities to reduce our interest expense even further.
Our $306 million and senior secured notes, which carry a coupon of 9% become callable in February 2022, and we will be monitoring market conditions of the right time to refinance.
Finally, we are planning to reserve of around $275 million of our year end cash balance to meet our seasonal working capital needs, which supplements our asset back liquidity facility.
Our second priority is to invest for growth.
We plan to invest a mid teens percentage of our total billings and development activities to create highly differentiated products that fuel organic growth.
We also plan to pursue small tuck in acquisitions that leverage our business platform, including complementary products and services.
Or access the new adjacent customer segments.
And our third priority is investing for efficiency.
We will invest and internal growth projects, such as our back office automation project, which is currently ongoing and we will find the other projects that deliver operational efficiencies help us deliver greater customer success and free additional capital to invest and our growth.
We're confident that HMH is well positioned for growth and 2021 and beyond.
Day, we're reiterating the guidance that we provided to you at the end of March when we announced our divestiture of HMH books, <unk> media and we're adding a few additional elements of guidance.
As a reminder, and 2021, we anticipate billings for the full year to be between 905 and $955 million, which is 1% the 6% growth.
Over 2020.
We're adding our expectation that over 50% of our billings will be derived from our connected products. This year.
We also continue to expect Unlevered free cash flow margins and a range of 9% to 11%.
As you will recall represents three to five points of margin expansion compared to 2020.
We're adding our outlook for annualized recurring revenue generated from our subscription offerings, which we expect to contribute 10% to 15% of our total billings for the year up from 6% and 2020.
We believe the net retention rate of over 100% will contribute to that growth and they are.
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With that I'd like to turn to our first quarter results and walk you through the financials.
The first quarter as you all know is seasonally our smallest still and we're off to a solid start.
Total billings were $104 million up $11 million from 2020.
Core solutions billings from the first quarter were up $17 million to $40 million driven by strength in international and our connected into programs domestically.
Extension billings were down $6 million of $64 million driven by lower billings from professional services, while the rest of the portfolio was largely unchanged.
In terms of the the other key financials and our net sales were $146 million and the first quarter.
Net loss from continuing operations for the first quarter was 49 million of $289 million improvement from the first quarter of 2020 recall that we took a large goodwill impairment charge and the first quarter of last year due to the decline and our stock price.
Adjusted EBITDA for the first quarter improved $34 million to $15 million and marks the first time since HMH went public and our first quarter adjusted EBITDA has been positive.
Typically the seasonality of our business makes us a negative quarter, but our value innovation efforts last year have dramatically improved the profitability.
Our free cash flow usage.
Was the $125 million compared to a usage of 202 million during the same period last year the.
The $77 million improvement and usage of cash and the first quarter was due to billings growth and the quarter, coupled with lower expenses due to the restructuring actions taken in 2020.
Importantly for the trailing 12 months ended in March our free cash flow was $72 million, reflecting the dramatically improved cost structure of the company and.
And as all of the more remarkable given that the pandemic impacted our billings for this full 12 month period.
All in all we feel the HMH is in a very strong financial position today.
And that we're well positioned to execute our digital first connected strategy.
Now before turning the call back over to Jack for a wrap up.
I'd like to take a moment to thank Brian Shipman for his impactful and dedicated service the HMH and its shareholders over the last four years.
Brian is leaving a leading HMH to pursue and other professional opportunity and we're sorry to see him go Brian We wish you the best of luck and we'll Miss you.
Investors may direct inquiries to our Investor Relations E Mail address Investor relations at HMH, Seo Dot com with that Jack back over to you.
Thank you Joe and thanks, everyone for joining us for today's call, which I recognize with the bit longer than usual.
We hope that you saw on the instructive.
Before moving to Q&A, let me just sum up the key points you heard today.
First HMH is the industry, leading learning technology company.
With a highly differentiated end to end platform solution.
Second cross selling and connections across the portfolio with the improved customer experience is HMH is unique opportunity to increase our share of the addressable market and provide critical value to educators and students.
Third we have a clear three point strategy in place.
Focus on shifting our revenue mix to digital and recurring revenue, while expanding margins and.
And finally, we're committed to leveraging our strong balance sheet and free cash flow generation to complement organic growth with tuck in acquisitions.
With that let's get to your questions.
Okay.
Hi, operator is one of the this is Joe here just want to make sure that.
But you are still with us.
Okay.
Joe Let me, let me suggest debt.
And ladies and gentlemen, my nephew you have.
If you have a question at this time. Please press Star then one on your Touchtone telephone.
If your question has been answered or you wish to remove yourself from the queue. Please press the pound key again, if you have a question at this time. Please press Star then one.
And it looks like our first question will come from the line of Jeff <unk>.
Silber with BMO capital markets. Your line is open. Please go ahead.
Thanks, So much really appreciate the thorough presentation I found it really helpful and just let me also publicly say Brian really appreciate all the help you've given over the years and best of luck on in terms of going forward.
Couple of questions you talked about the federal funding.
And I know, it's the big dollar amount and it's great to see not only for your company, but for this country overall, but how quickly can that money be put to work, let's say you're getting the.
$67 billion being thrown out.
This year, how quickly will companies like you'd be able to benefit from that.
Yes, Jeff.
Great question, Thanks for asking it.
We're seeing increased demand really is the result of our strategy and the quality of our solutions.
However, we are beginning to see the first signs of federal dollars and the market, but as yet not broad based across the overall market. So you're going to see a trickle in over the course of this year before it ramps up two of pace.
And that Youll see a good amount of that 200 billion spent.
Over the next three years.
Okay, probably and so more of an issue going forward, but again, some sort of minor benefit this year, Okay. That's really helpful.
And my follow up question it sounds like the company started off of the year better than expected.
Some of your initial guidance had included some impact of the federal funding and May not be a big deal. This year, but why not raise guidance I've had a few people asking me of that question. So I figured I'd pose it to you.
Yes, Thanks, Jeff and Joe Wilson, as we said on the call, we anticipate really solid financial performance this year.
But when you do look at that stimulus effect.
It is something that is going to be spread over over multiple years, not just 2021. So we're very optimistic cautiously optimistic about potential upside this year, but we feel it's prudent to be consistent with our historical approach and and not raise guidance after the first quarter.
Okay fair enough. Thanks, so much and I'll get back in the queue.
Thank you and our next question comes from the line of George Tong with Goldman Sachs. Your line is open. Please go ahead.
Hi. Thanks. This is David on for George could you provide and update on the California, and Florida adoption cycles, and how HMH is positioned and the cycles.
Yes be happy to nothing to add from last quarter on California.
That is and adoption for.
Four sites that we believe is stretching over multiple years typically its three years and we expect it to to.
And to continue on for three plus years as a result of the effects of the pandemic. So no no change from the comments last quarter and as it relates to Florida. The same thing really no change just as a reminder.
The.
In terms of <unk> 12.
Performing in line with our expectations K.
K five underperforming our expectations and.
And then in intervention exceeding our expectations and I think this is a great example, where we talk about a connected comprehensive solution and a key differentiator of vis vis our competition our performance in Florida and really shows.
The strength of that portfolio and when you can sell not only and core.
Services, as well and intervention and the assessments so.
We feel good about.
Good about Florida and and good.
About Florida as a showcase for our strategy.
Okay. Thank you very helpful. And then could you also talk about traction with cross selling and supplemental materials with core curriculum.
Yeah, Yeah, you see in the results of 51% of our sales in Q1 were quote unquote connected sales and that's the list you can almost think of using the publishing of.
<unk> and Thats kind of our front list if you will.
We don't refer to it that way but.
It's about 20 or so products.
Debt or in the bag of our salespeople and 51% of all of our billings were connected so we feel great about the cross selling that our sales organization is doing cross selling poor to supplemental.
Or co.
And intervention or supplemental the intervention.
And taking a greater share of that $200 per year per student spend for construction materials.
Great. Thank you.
Thank you and again, ladies and gentlemen, if you have a question and at this time. Please press Star then one.
And our next question comes from the line of Jason Bazinet with Citi. Your line is open. Please go ahead.
Thanks, and just had a longer term question, where do you think <unk> as a percentage of your overall billings can go and say five years.
Yes, Jason.
And it's obviously and the.
Area that we're very focused on and you could see the growth and the IRR and the market is like subscriptions.
And the reason why the market likes it is you have to prove your value each and every year.
And in K 12 that means share.
And me, how youre improving student outcomes.
So we havent disclose nor have we come up with the number and five years of what <unk> will be but we see a steady shift from nonrecurring to recurring billings over the next debt over the next several years.
Okay. Thank you.
Thank you and I'm showing no further questions at this time and I would like to turn the conference back over to Jack Lynch for any further remarks.
No I just wanted to thank everyone for joining us on the call today and we look forward to speaking with you again on the Q2 earnings call on August So have a great day. Thank you.
This concludes today's program. Thank you for participating you may now disconnect everyone have a great day.
And then.
And so.
And.
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Good.