United States

Securities and Exchange Commission

 

Washington, D.C. 20549 

Form 10-K 

Annual Report pursuant to Section 13 or 15(d) of

the Securities Exchange Act of 1934

 

For the fiscal year ended May 31, 20172019   |   Commission File No. 000-19860 

NONE 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

The aggregate market value of the Common Stock, par value $0.01, held by non-affiliates as of November 30, 2016,2018, was approximately $1,312,526,586.$1,368,279,434. As of such date, non-affiliates held no shares of the Class A Stock, $0.01 par value. There is no active market for the Class A Stock.

Documents Incorporated By Reference

Part I

Item 1 | Business

 

Overview

 

Scholastic Corporation (the “Corporation” and together with its subsidiaries, “Scholastic” or the “Company”) is the world’s largest publisher and distributor of children’s books, a leading provider of print and digital instructional materials for grades pre-kindergarten ("pre-K") to grade 12 and a producer of educational and entertaining children’s media. The Company creates quality books and ebooks, print and technology-based learning materials

 

The Company currently employs approximately 6,5006,400 people in the United States and approximately 2,500 people outside the United States.

 

Segments – Continuing Operations

 

 

The following table sets forth revenues by reportable segment for the three fiscal years ended May 31: 

 

Additional financial information relating to the Company’s reportable segments is included in Note 3 of Notes to Consolidated Financial Statements in Item 8, “Consolidated Financial Statements and Supplementary Data,” which is included herein.

 

CHILDREN’S BOOK PUBLISHING AND DISTRIBUTION

(60.4%59.9% of fiscal 20172019 revenues)

 

General

The Company is the world’s largest publisher and distributor of children’s books and is the leading operator of school-based book clubs and school-based book fairs in the United States. The Company is also a leading publisher of children’s print books, ebooks and audiobooks distributed through the trade channel. Scholastic offers a broad range of children’s books through its school and trade channels, many of which have received awards for excellence in children’s literature, including the Caldecott and Newbery Medals.

The Company obtains titles for sale through its distribution channels from three principal sources. The first source for titles is the Company’s publication of books created under exclusive agreements with authors, illustrators, book packagers or other media companies. Scholastic generally controls the exclusive rights to sell these titles through all

channels of distribution in the United States and, to a lesser extent, internationally. Scholastic’s second source of titles is through obtaining licenses to publish books exclusively in specified channels of distribution, including reprints of books originally published by other publishers for which the Company acquires rights to sell in the school market. The third source of titles is the Company’s purchase of finished books from other publishers. 

School-Based Book Clubs

Scholastic founded its first school-based book club in 1948. The Company's school-based book clubs consist of reading clubs for pre-K through grade 8. In addition to its regular reading club offerings, the Company creates special theme-based and seasonal offers targeted to different grade levels during the year.

The Company mails promotional materials containing order forms to classrooms in the vast majority of the pre-K to grade 8 schools in the United States. Classroom teachers who wish to participate in a school-based book club provide the promotional materials to their students, who may choose from curated selections at substantial reductions from list prices. The teacher aggregates the students’ orders and forwards them to the Company. Approximately 64%65% of kindergarten ("K") to grade 5 elementary school teachers in the United States who received promotional materials in fiscal 20172019 participated in the Company’s school-based book clubs. In fiscal 2017,2019, approximately 96% of total book club revenues were placed via the internet through the Company’s online ordering platform, which allows parents, as well as teachers, to order online.online, with approximately 47% of such revenues being placed by parents via the Company's online ordering platform. Products are shipped to the classroom for distribution to the students. Teachers who participate in the book clubs receive bonus points and other promotional incentives, which may be redeemed from the Company for additional books and other resource materials and items for their classrooms or the school.

 

School-Based Book Fairs

The Company began offeringentered the school-based book fairs channel in 1981 under the name Scholastic Book Fairs. The Company is now the leading distributor of school-based book fairs in the United States serving schools in all 50 states. Book fairs giveprovide children access to hundreds of popular, quality books and educational materials, increase student reading and help book fair organizers raise funds for the purchase of school library and classroom books, supplies and equipment. Book fairs are generally weeklong events where children and families peruse and purchase their favorite books together. The Company delivers its book fairs product from its warehouses to schools principally by a fleet of Company-owned and leased vehicles. Sales and customer service representatives, working from the Company’s regional offices, and distribution facilities and national distribution facility in Missouri, along with local area field representatives, provide support to book fair organizers. Book fairs are conducted by school personnel, volunteers and parent-teacher organizations, from which the schools may receive either books, supplies and equipment or a portion of the proceeds from every book fair they host. The Company is currently focused on maximizing participation at its book fairs through increasing attendance at each book fair event.fair. Approximately 91%92% of the schools that conducted a Scholastic Book Fairbook fair in fiscal 20162018 hosted a fair in fiscal 2017.2019.

 

Trade

Scholastic is a leading publisher of children’s books sold through bookstores, internet retailers and mass merchandisers in the United States. Scholastic’s original publications include Harry Potter™, The Hunger Games, The 39 Clues^®, Spirit Animals^®, The Magic School Bus^®, I Spy™, Captain Underpants^®, Dog Man^®, Goosebumps^® and Clifford The Big Red Dog^®, and licensed properties such as Star Wars^®, Lego^®, Pokemon^® and Geronimo Stilton^®. In addition, the Company’s Klutz^® imprint is a publisher and creator of “books plus” products for children, including titles such as Make Clay Charms,Sew Mini Treats Make Your Own Mini Erasers, and, Lego Chain Reactionsand Make Your Own Bath Bombs.

 

Also included in the Company's trade organization are Weston Woods Studios, Inc. ("Weston Woods") and Scholastic Audio, as well as Scholastic Entertainment Inc. ("SEI"). Weston Woods creates audiovisual adaptations of classic children’schildren's picture books distributed through the school and retail markets. Scholastic Audio provides audiobook

productions of popular children's titles. SEI is responsible for exploiting the Company's film and television assets, which includeincludes a large television programming library based on the Company's properties.

EDUCATION

(18.0% of fiscal 20172019 revenues)

 

INTERNATIONAL

(21.6%22.1% of fiscal 20172019 revenues)

General

 

Scholastic has operations in Canada, the United Kingdom, Ireland, Australia, New Zealand, India, China, Singapore and other parts of Asia including Malaysia, Thailand, the Philippines, Indonesia, Hong Kong, Taiwan, Korea and Japan. The Company has branches in the United Arab Emirates and Colombia, a business in China that supports English language learning and, through its export business, sells products in approximately 145165 countries. The Company’s international operations have original trade and educational publishing programs; distribute children’s books, digital educational resources and other materials through school-based book clubs, school-based book fairs and trade channels; and produce and distribute magazines;magazines and offer on-line subscription services. Many of the Company’s international operations also have their own export and foreign rights licensing programs and are book publishing licensees for major media properties. Original books published by many of these operations have received awards for excellence in children’s literature. In Asia, the Company also publishes and distributes products under the Grolier name for parents to teach their children at home and engages in direct sales in shopping malls and door to door, as well as operating a franchise program for tutorial centers that provide English language training to students.

Canada

Scholastic Canada, founded in 1957, is a leading publisher and distributor of English and French language children’s books. Scholastic Canada is the largest operator of school-based book club and school-based book fair operatormarketing channels in Canada and is one of the leading suppliers of original or licensed children’s books to the Canadian trade market. Since 1965, Scholastic Canada has also produced quality Canadian-authored books and educational materials, including an early reading program sold to schools for grades K to 6.

 

United Kingdom

Scholastic UK, founded in 1964, is the largest operator of school-based book club and book fair operatormarketing channels in the United Kingdom and is a publisher and one of the leading suppliers of original or licensed children’s books to the United Kingdom trade market. Scholastic UK also publishes supplemental educational materials, including professional books for teachers. Scholastic also holds equity method investments in two publishers, one of which is also a distributor, in the United Kingdom.

Australia

Scholastic Australia, founded in 1968, is the largest operator of school-based book club and book fair operatormarketing channels in Australia, reaching approximately 90% of the country’s primary schools. Scholastic Australia also publishes quality children’s books supplying the Australian trade market. In addition, Scholastic holds an equity method investment in a publisher and distributor of children's books.

New Zealand

Scholastic New Zealand, founded in 1962, is the largest children’s book publisher and the leading book distributor to schools in New Zealand. Through its school-based book clubs and book fairs channels, Scholastic New Zealand reaches approximately 90% of the country’s primary schools. In addition, Scholastic New Zealand publishes quality children’s books supplying the New Zealand trade market. 

Asia

The Company’s Asian operations include initiatives for educational publishing programs based out of Singapore, as well as the wholly-owned Grolier direct sales business, which sells English language and early childhood learning materials through a network of independent sales representatives in India, Indonesia, Malaysia, the Philippines, Singapore and Thailand and engages in direct sales in shopping malls and door to door. In addition, the Company operates school-based book clubs and book fairsmarketing channels throughout Asia; publishes original titles in English and Hindi languages in India, including specialized curriculum books for local schools; conducts reading improvement programs inside local schools in the Philippines; and operates a chain of English language tutorial centers in China in cooperation with local partners.

Foreign Rights and Export

The Company licenses the rights to selectedselect Scholastic titles in 4745 languages to other publishing companies around the world. The Company’s export business sells educational materials, digital educational resources and children’s books to schools, libraries, bookstores and other book distributors in approximately 145150 countries that are not otherwise directly serviced by Scholastic subsidiaries. The Company also partners with governments and non-governmental agencies to create and distribute books to public schools in developing countries.

 

The Company’s books, magazines and other materials are manufactured by the Company with the assistance of third parties under contracts entered into through arms-length negotiations orand competitive bidding. As appropriate, the Company enters into multi-year agreements that guarantee specified volumevolumes in exchange for favorable pricing terms. Paper is purchased directly from paper mills and other third-party sources. The Company does not anticipate any difficulty in continuing to satisfy its manufacturing and paper requirements.

 

In the United States, the Company mainly processes and fulfills orders for school-based book clubs, trade, reference and non-fiction products, educational products and export orders from its primary warehouse and distribution facility in Jefferson City, Missouri. In connection with its trade business, the Company sometimes will shipmay fulfill product orders directly from printers to customers. Magazine orders are processed at the Jefferson City facility and are shipped directly from printers.

 

School-based book fair orders are fulfilled through a network of warehouses across the country, as well as from the Company's Jefferson City warehouse and distribution facility. The Company’s international school-based book clubs, school-based book fairs, trade and educational operations use distribution systems similar to those employed in the United States.

 

CONTENT ACQUISITION

 

Access to intellectual property or content (“Content”) for the Company’s product offerings is critical to the success of the Company’s operations. The Company incurs significant costs for the acquisition and development of Content for its product offerings. These costs are often deferred and recognized as the Company generates revenues derived from the benefits of these costs. These costs include the following:

 

SEASONALITY

 

 

The markets for children’s books, educational products and entertainment materials are highly competitive. Competition is based on the quality and range of materials made available, price, promotion and customer service, as well as the nature of the distribution channels. Competitors include numerous other book, ebook, textbook, library, reference material and supplementary publishers, distributors and other resellers (including over the internet) of children’s books and other educational materials, national publishers of classroom and professional magazines with substantial circulation, and distributors of products and services on the internet. In the United States, competitors also include regional and local school-based book fair operators and other fundraisingfund raising activities in schools and bookstores. The Company has also become subject to increased competition resulting from the entry into the book fairs business of a competitor operating on a national level, which has also initiated a classroom-directed program competitive with the Company’s school-based book clubs business. Competition may increase to the extent that other entities enter the market and to the extent that current competitors or new competitors develop and introduce new materials that compete directly with the products distributed by the Company or develop or expand competitive sales channels. The Company believes that its position as both a publisher and distributor are unique to certain of the markets in which it competes, principally in the context of its children’s book business.

 

COPYRIGHT AND TRADEMARKS

 

As an international publisher and distributor of books, Scholastic aggressively utilizes the intellectual property protections of the United States and other countries in order to maintain its exclusive rights to identify and distribute many of its products. Accordingly, SCHOLASTIC is a trademark registered in the United States and in a number of countries where the Company conducts business or otherwise distributes its products. The Corporation’s principal operating subsidiary in the United States, Scholastic Inc., and the Corporation’s international subsidiaries, through Scholastic Inc., have registered and/or have pending applications to register in relevant territories trademarks for important services and programs. All of the Company’s publications, including books and magazines, are subject to copyright protection both in the United States and internationally. The Company also obtains domain name protection for its internet domains. The Company seeks to obtain the broadest possible intellectual property rights for its products, and because inadequate legal and technological protections for intellectual property and proprietary rights could adversely affect operating results, the Company vigorously defends those rights against infringement.

The following individuals have been determined by the Board of Directors to be the executive officers of the Company. Each such individual serves in his or her position with Scholastic until such person’s successor has been elected or appointed and qualified or until such person’s earlier resignation or removal.

 

The Corporation’s annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and any amendments to those reports are accessible at the Investor Relations portion of its website (scholastic.com) and are available, without charge, as soon as reasonably practicable after such reports are electronically filed or furnished to the Securities and Exchange Commission (“SEC”). The Company also posts the dates of its upcoming scheduled financial press releases, telephonic investor calls and investor presentations on the “Events and Presentations” portion of its website at least five days prior to the event. The Company’s investor calls are open to the public and remain available through the Company’s website for at least 45 days thereafter.

 

The public may also read and copy materials that the Company files with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, DC 20549. The public may obtain information, as well as copies of the Company’s filings, from the Office of Investor Education and Advocacy by calling the SEC at 1-800-SEC-0330. The SEC also maintains an internet site, at www.sec.gov, that contains reports, proxy and information statements and other information regarding issuers that file electronically with the SEC.

Item 1A | Risk Factors

Set forth below and elsewhere in this Annual Report on Form 10-K and in other documents that the Corporation files with the SEC are risks that should be considered in evaluating the Corporation’s common stock, as well as risks and uncertainties that could cause the actual future results of the Company to differ from those expressed or implied in the forward-looking statements contained in this Report and in other public statements the Company makes. Additionally, because of the following risks and uncertainties, as well as other variables affecting the Company’s operating results, the Company’s past financial performance should not be considered an indicator of future performance.

 

If we cannot anticipate technology trends and develop new products or adapt to new technologies responding to changing customer preferences, this could adversely affect our revenues or profitability.

 

The Company operates in highly competitive markets that are subject to rapid change, including, in particular, changes in customer preferences and changes and advances in relevant technologies. There are substantial uncertainties associated with the Company’s efforts to develop successful trade publishing, educational, and media products and services, including digital products and services, for its customers, as well as to adapt its print and other materials to new digital technologies, including the internet cloud technologies, ebook readers, tablets, mobile and other devices and school-based technologies. The Company makes significant investments in new products and services that may not be profitable, or whose profitability may be significantly lower than the Company anticipates or has experienced historically. In particular, in the context of the Company’s current focus on key digital opportunities, including ebooks for children and schools, the markets are continuing to develop and the Company may be unsuccessful in establishing itself as a significant factor in any market which does develop. Many aspects of an ebook marketmarkets which could develop for children and schools, such as the nature of the relevant software and devices or hardware, the size of the market, relevant methods of delivery and relevant content, as well as pricing models, are still evolving and will, most likely, be subject to change on a recurrentrecurring basis until a pattern develops and becomes more defined. There can be no assurance that the Company will be successful in implementing its ebook strategy, including the continuing development of its ereading applications for consumer and classroom markets, which could adversely affect the Company’s revenues and growth opportunities. In this connection,For example, the Company previously determined to cease its support for its ereading applications offered to consumers through its school and ecommerce channels in favor of concentrating its efforts towards the introduction of a universal cross-platform streaming application, to be made available initially to the classroom market. There can be no assurance that the Company will be successful in implementing its revised digital strategy, including the continuing development of new applications and digital products for its consumer and school markets, which could adversely affect the Company’s revenues and growth opportunities. Further, there can be no assurance that the Company will ultimately be successful in its broader redirected strategy of introducingbased on a streaming model directed to the classroom market or the subsequentcoupled with its continuing development of a broader streaming model. In addition, the Company faces market risks associated with systems development and service delivery in its evolving school ordering and ecommerce businesses.

 

Our financial results would suffer if we fail to successfully differentiate our offerings and meet market needs in school-based book clubs and book fairs, two of our core businesses.

 

The Company’s school-based book clubs and book fairs are core businesses which produce a substantial partamount of the Company’s revenues. The Company is subject to the risks that it will not successfully continue to develop and execute new promotional strategies for its school-based book clubs or book fairs in response to future customer trends including any trends relating to a demand for ebooks on the part of customers, or technological changes or that it will not otherwise meet market needs in these businesses in a timely or cost-effective fashionfashion. The book clubs business relies on attracting and successfully engage a newerretaining new sponsor-teachers to promote its products. If the Company cannot attract new millennial teacher population in order to increase current teacher sponsorship in its book club business, as well as maintain school sponsorship atand younger teachers and meet the planned level in its book fair businesschanging preferences and ordering levels in eachdemands of these businesses, which would have an adverse effect onteachers, its revenues and cash flows could be negatively impacted. Likewise, the Company’s financial results. inability to meet the preferences or service expectations of individuals and groups within schools who organize and run book fairs could negatively impact the Company's revenues and cash flows.

The Company differentiateshas differentiated itself from competitors by providing curated offerings in its school-based book clubs and book fairs designed to make reading attractive for children, in furtherance of its mission as a champion of literacy. Competition from mass market and on-line distributors using customer-specific curation tools could reduce this differentiation, posing a risk to the Company's results. In addition, the Company has become subject to increased competition in its school book fair business as a result of the entry into this business of a competitor operating on a national level, which has also initiated a classroom-directed program competitive with the Company's school-based book clubs business. Failure to effectively meet this increased competition would have an adverse effect on the Company's financial performance and results of operations.

  

If we fail to maintain the continuance of strong relationships with our authors, illustrators and other creative talent, as well as to develop relationships with new creative talent, our business could be adversely affected.

 

The Company’s business, in particular the trade publishing and media portions of the business, is highly dependent on maintaining strong relationships with the authors, illustrators and other creative talent who produce the products and services that are sold to its customers. Any overall weakening of these relationships, or the failure to develop successful new relationships, could have an adverse impact on the Company’s business and financial performance.

We ownIn June 2018, the U.S. Supreme Court reversed its prior case law holding that it was unconstitutional for states to require remote sellers of goods, such as catalog mailers and ecommerce internet sellers, to collect and remit sales tax in respect to sales made to residents of a state, if the remote sellers maintained no physical presence in the state. This holding affected certain significant real estate assetsof Scholastic's business, primarily its school book clubs business unit, which arehad not previously collected or remitted sales tax on sales of books through its book clubs in certain states, based on the absence of the requisite presence in the relevant state to enable the state to constitutionally require that it collect or remit such taxes. The result of this decision has been to subject the Company's school book club business to various risks relatedremitting sales tax in additional states where it had not previously remitted such tax on the sales of books through the school book clubs to conditions affectingresidents of the real estate market.state.

As a result of the U.S. Supreme Court ruling, the Company initiated a sales tax collection program with its March 2019 school book clubs offerings which resulted in a significant adverse impact on the revenue of the book clubs business for the fourth quarter of its 2019 fiscal year. The Company has direct ownershipcontinued effects of certain significant real estate assets,the ruling are still unclear and depend on, among other things, the final procedures and regulations the various states institute to implement their tax collection efforts based on the ruling, the extent to which the various states may seek to apply the ruling retroactively to prior time periods and for what periods and, in the case of the Company's school books club business, additional issues relating to the provisions of the applicable law previously in effect in a particular the Company’s headquarters location in New York Citystate and its primary distribution center in Jefferson City, Missouri. The New York headquarters location serves a dual purposeapplication to the book clubs business model applied to that state. Additional factors will depend on the success of the Company's efforts to significantly increase the number of parents who are taking advantage of the parents on-line ordering system, which provides for the automatic application of sales tax during the ordering process, as it also contains premium retail space that is, from time to time, leased to retail tenants in order to generate rental income and cash flow, andwell as the ability of the Company is currently engagedto otherwise make successful changes to its sales tax collection program as initially implemented to seek to mitigate its adverse impact. There can be no assurance that the Company will be successful in a renovationits efforts to mitigate the adverse impact of the initiation of sales tax collection in its school book clubs business or the time it will take to realize the benefit of any mitigation efforts undertaken, including attracting more parents to its on-line ordering system, changing the nature and pricing structure of its New York headquartersofferings or other adjustments, in which will include making additional space available for retail use. Accordingly,case the Company is sensitive to various risk factors suchrevenues and profitability, as changes to real estate values and property taxes, pricing and demand for high end retail spaces in Soho, New York City, interest rates, cash flow of underlying real estate assets, supply and demand, andwell as the credit worthiness of any retail tenants. There is also no guarantee that investment objectives for the retail componentgrowth prospects, of the Company’s real estate willCompany's school book clubs business would continue to be achieved.adversely impacted.

If we fail to adapt to new purchasing patterns or trends, our business and financial results could be adversely affected.

 

The Company’s business is affected significantly by changes in customer purchasing patterns or trends in, as well as the underlying strength of, the trade, educational and media markets for children. In particular, the Company’s educational publishing business may be adversely affected by budgetary restraints and other changes in educational funding as a result of new policies which could result from the recent change in administration and changes in the Department of Educationbe implemented at the federal level or otherwise resulting from new legislation or regulatory action whether at the federal, state or local level as well asand changes in the procurement process, to which the Company may be unable to adapt successfully. In addition, there are many competing demands for educational funds, and there can be no guarantee that the Company will otherwise be successful in continuing to obtain sales of its educational materialsprograms and programsmaterials from any available funding.

The competitive pressures we face in our businesses could adversely affect our financial performance and growth prospects.

 

The Company is subject to significant competition, including from other trade and educational publishers and media, entertainment and internet companies, as well as retail and internet distributors, many of which are substantially larger than the Company and have much greater resources. To the extent the Company cannot meet these challenges from

existing or new competitors including in the educational publishing business, and develop new product offerings to meet customer preferences or needs, the Company’s revenues and profitability could be adversely affected.

In its educational publishing business, the Company has invested in a core curriculum literacy program covering grades pre-K through 6 in direct competition with traditional basal textbook publishers to meet the perceived needs of the modern curriculum. There can be no assurance that the Company will be successful in having school districts adopt the new core program in preference to basal textbooks or be successful in state adoptions, nor that basal textbook publishers will not successfully adapt their business models to the development of new forms of core curriculum, which could have an adverse effect on the return on the Company’s investments in this area, as well as on its financial performance and growth prospects. Traditional basal text book publishers generally maintain larger sales forces than the Company, and sell across several academic disciplines, allowing them a larger presence than the Company which only carries core and supplemental literacy solutions. Additionally, demand for many of the Company’s product offerings, particularly books sold through school channels, is subject to price sensitivity. Failure to maintain a competitive pricing model could reduce revenues and profitability.

Our reputation is one of our most important assets, and any adverse publicity or adverse events, such as a significant data privacy breach or violation of privacy laws or regulations, could cause significant reputational damage and financial loss.

 

The businesses of the Company focus on children’s reading, learning and education, and its key relationships are with educators, teachers, parents and children. In particular, the Company believes that, in selecting its products, teachers, educators and parents rely on the Company’s reputation for quality books and educational materials and programs appropriate for children. Negative publicity, either through traditional media or through social media, could tarnish this relationship.

The Company is subject to privacy laws and regulations in the conduct of its business in the United States and in other jurisdictions in which it conducts its international operations, many of which vary significantly, relating to the collection and use of personal information, obtained from customers of,including the European Union General Data Protection Regulation, which became enforceable on May 25, 2018, and participantsthe California Consumer Privacy Act, which will become effective in the Company’s on-line offerings.January 2020. In addition, the Company is also subject to the regulatory requirements of the Children’s Online Privacy Protection Act ("COPPA") in

We maintain an experienced and dedicated employee base that executes the Company’s strategies. Failure to attract, retain and develop this employee base could result in difficulty with executing our strategy.

The Company’s employees, notably its Chief Executive Officer, senior executives and other editorial staff members, have substantial experience in the publishing and education markets. In addition, the Company is in the process of implementing a strategic information technology transformation process, requiring diverse levels of relevant expertise and experience. Inability to continue to adequately maintain and develop a workforce of this nature meeting the foregoing needs, including the development of new skills in the context of a rapidly changing business environment created by technology, involving new business processes and increased access to data and data analytics, could negatively impact the Company’s operations.operations and growth prospects.

 

If we are unsuccessful in implementing our corporate strategy we may not be able to maintain our historical growth.

 

The Company’s future growth depends upon a number of factors, including theincluding:

Difficulties, delays or failures experienced in connection with any of these factors could materially affect the future growth of the Company.

Failure of one or more of our information technology platforms could affect our ability to execute our operating strategy.

 

Increases in certain operating costs and expenses, which are beyond our control and can significantly affect our profitability, could adversely affect our operating performance.

 

The Company’s major expense categories include employee compensation and printing, paper and distribution (such as postage, shipping and fuel) costs. Compensation costs are influenced by general economic factors, including those affecting costs of health insurance, post-retirementpostretirement benefits and any trends specific to the employee skill sets that the Company requires. Current shortages for warehouse labor, driver labor and other required skills may cause the Company's costs to increase.

 

Paper prices fluctuate based on worldwide demand and supply for paper in general, as well as for the specific types of paper used by the Company. IfWhile the Company has taken steps to manage certain expected operating cost

increases, if there is a significant disruption in the supply of paper or a significant increase in paper costs, or in its shipping or fuel costs, beyond those currently anticipated, which would generally be beyond the control of the Company, or if the Company’s strategies to try to manage these costs, including additional cost savings initiatives, are ineffective, the Company’s results of operations could be adversely affected.

Failure of third party providers to provide contracted outsourcing of business processes and information technology services could cause business interruptions and could increase the costs of these services to the Company.

The Company outsources business processes to reduce complexity and increase efficiency for activities such as distribution, manufacturing, product development, transactional processing, information technologies and various administrative functions. Increasingly, the Company is engaging third parties to provide SaaS, which can reduce the

The inability to obtain and publish best-selling new titles such as Harry Potter could cause our future results to decline in comparison to historical results.

 

The Company invests in authors and illustrators for its Trade publication business, and has a history of publishing hit titles such as Harry Potter. The inability to publish best-selling new titles in future years could negatively impact the Company.

The loss of or failure to obtain rights to intellectual property material to our businesses would adversely affect our financial results.

The Company’s products generally comprise intellectual property delivered through a variety of media. The ability to achieve anticipated results depends in part on the Company’s ability to defend its intellectual property against infringement, as well as the breadth of rights obtained. The Company’s operating results could be adversely affected by inadequate legal and technological protections for its intellectual property and proprietary rights in some jurisdictions, markets and media, as well as by the costs of dealing with claims alleging infringement of the intellectual property rights of others, including claims involving business method patents in the ecommerce and internet area,areas and the licensing of photographs in the trade and educational publishing areas, and the Company’s revenues could be constrained by limitations on the rights that the Company is able to secure to exploit its intellectual property in different media and distribution channels, as well as geographic limitations on the exploitation of such rights.

Because we procure products and sell our products and services in foreign countries, changes in currency exchange rates, as well as other risks and uncertainties, could adversely affect our operations and financial results.

 

The Company has various operating subsidiaries domiciled in foreign countries. In addition, the Company sells products and services to customers located in foreign countries where it does not have operating subsidiaries, and a significant portion of the Company’s revenues are generated from outside of the United States. The Company’s business processes, including distribution, sales, sourcing of content, marketing and advertising, are, accordingly, subject to multiple national, regional and local laws, regulations and policies. The Company could be adversely affected by noncompliance with foreign laws, regulations and policies, including those pertaining to foreign rights and exportation. The Company is also exposed to fluctuations in foreign currency exchange rates and to business disruption caused by political, financial or economic instability or the occurrence of natural disasters in foreign countries. In addition, the Company and its foreign operations could be adversely impacted by a downturn in general economic conditions on a more global basis caused by general political instability or unrest or changes in economic affiliations. For example, the results of the Referendum on the United Kingdom’s (or the UK) Membership in the European Union (EU) (referred to as Brexit), advising for the exit of the United Kingdom from the European Union, could affect our sales in the UK, as the uncertainty caused by the vote and the current uncertain future coursestate of negotiations

between the EU and the UK and the nature of any exit could negatively impact the economies of the UK and other nations. Changes in international trade relations with foreign countries, such as increased tariffs and duties (including those recently imposed by the United States) could cause the Company's costs to rise, or our overseas revenues to decline.

Failure to meet the demands of regulators, and the associated high cost of compliance with regulations, as well as failure to enforce compliance with our Code of Ethics and other policies, could negatively impact us.

The Company operates in multiple countries and is subject to different regulations throughout the world. In the United States, the Company is regulated by the Internal Revenue Service, the Securities and Exchange Commission, the Federal Trade Commission and other regulating bodies. Failure to comply with these regulators, including providing these regulators with accurate financial and statistical information that often is subject to estimates and assumptions, or the high cost of complying with relevant regulations, could negatively impact the Company.

In addition, the decentralized and global nature of the Company’s operations makes it more difficult to communicate and monitor compliance with the Company’s Code of Ethics and other material Company policies and to assure compliance with applicable laws and regulations, some of which have global applicability, such as the Foreign Corrupt Practices Act in the United States and the UK Bribery Act in the United Kingdom. Failures to comply with the Company’s Code of Ethics and violations of such laws or regulations, including through employee misconduct, could result in significant liabilities for the Company, including criminal liability, fines and civil litigation risk, and result in damage to the reputation of the Company.

 

The Company conducts certain of its businesses and maintains warehouse and office facilities in locations that are at risk of being negatively affected by severe weather and natural disaster events, such as hurricanes, tornadoes, floods, snowstorms or snowstorms.earthquakes. Notably, much of the Company’s domestic distribution facilities are located in central Missouri. A disruption of these or other facilities could impact the Company’s school-based book clubs, school-based book fairs and education businesses. Additionally, weather and natural disaster disruptions could result in school closures, resulting in reduced demand for the Company’s products in its school channels during the affected periods. Accordingly, the Company could be adversely affected by any future significant weather event.and natural disaster events.

 

Control of the Company resides in our Chairman of the Board, President and Chief Executive Officer and other members of his family through their ownership of Class A Stock, and the holders of the Common Stock generally have no voting rights with respect to transactions requiring stockholder approval.

 

The voting power of the Corporation’s capital stock is vested exclusively in the holders of Class A Stock, except for the right of the holders of Common Stock to elect one-fifth of the Board of Directors and except as otherwise provided by law or as may be established in favor of any series of preferred stock that may be issued. Richard Robinson, the Chairman of the Board, President and Chief Executive Officer, and other members of the Robinson family beneficially own all of the outstanding shares of Class A Stock and are able to elect up to four-fifths of the Corporation’s Board of Directors and, without the approval of the Corporation’s other stockholders, to effect or block other actions or transactions requiring stockholder approval, such as a merger, sale of substantially all assets or similar transaction.

 

Note

The risk factors listed above should not be construed as exhaustive or as any admission regarding the adequacy of disclosures made by the Company prior to and including the date hereof.

 

Forward-Looking Statements:

This Annual Report on Form 10-K contains forward-looking statements.statements relating to future periods. Additional written and oral forward-looking statements may be made by the Company from time to time in 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, strategic 2020 Plan and other 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 that could cause actual results to differ materially from those indicated in the forward-looking statements, due to factors including those noted in this Annual 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.

Item 1B | Unresolved Staff Comments

None.

 

Item 2 | Properties

The Company maintains its principal offices in the metropolitan New York area, where it owns or leases approximately 0.60.5 million square feet of space. On February 28, 2014, theThe Company acquired its headquarters space (including land, building, fixtures and related personal property and leases) at 555 Broadway, New York NY from its landlord underin February 2014 and, as a purchase and sale agreement. As a result, of such purchase, the Company now owns the entirety of its principal headquarters space located at 557 and 555 Broadway in New York City, andCity. In fiscal 2019, the Company has commencedcompleted the renovation of thisits headquarters space to create new premium retail space and a more modern and efficient office plan.in addition to new premium retail space.

The Company also owns or leases approximately 1.5 million square feet of office and warehouse space for its primary warehouse and distribution facility located in the Jefferson City, Missouri area. In addition, the Company owns or leases approximately 2.8 million square feet of office and warehouse space inacross approximately 60 facilities in the United States, principally for Scholastic book fairs. The Company owns or leases approximately 1.4 million square feet of office and warehouse space in approximately 130 facilities in Canada, the United Kingdom, Australia, New Zealand, Asia and elsewhere around the world for its international businesses.

The Company considers its properties adequate for its current needs. With respect to the Company’s leased properties, no difficulties are anticipated in negotiating renewals as leases expire or in finding other satisfactory space, if current premises become unavailable. For further information concerning the Company’s obligations under its leases, see Notes 1 and 5 of Notes to Consolidated Financial Statements in Item 8, “Consolidated Financial Statements and Supplementary Data.”

 

Item 3 | Legal Proceedings

Various claims and lawsuits arising in the normal course of business are pending against the Company. The Company accrues a liability for such matters when it is probable that a liability has occurred and the amount of such liability can be reasonably estimated.  When only a range can be estimated, the most probable amount in the range is accrued unless no amount within the range is a better estimate than any other amount, in which case the minimum amount in the range is accrued. Legal costs associated with litigation loss contingencies are expensed in the period in which they are incurred. The Company does not expect, in the case of those claims and lawsuits where a loss is considered probable or reasonably possible, after taking into account any amounts currently accrued, that the reasonably possible losses from such claims and lawsuits would have a material adverse effect on the Company’s consolidated financial position or results of operations. See Note 5, "Commitments and Contingencies," of Notes to the Consolidated Financial Statements in Item 8, "Consolidated Financial Statements and Supplementary Data" for further discussion.

Item 4 | Mine Safety Disclosures

Not Applicable.

Part II

Item 5 | Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

 

 

Stock Price Performance Graph

The graph below matches the Corporation’s cumulative 5-year total shareholder return on Common Stock with the cumulative total returns of the NASDAQ Composite index and a customized peer group of three companies that includes Pearson PLC, John Wiley & Sons Inc. and Houghton Mifflin Harcourt. The graph tracks the performance of a $100 investment in the Corporation’s Common Stock, in the index and in the peer group (with the reinvestment of all dividends) from June 1, 20122014 to May 31, 2017. Houghton Mifflin Harcourt was added to the peer group on November 14, 2013, which was the first day its shares traded on the NASDAQ stock exchange.

*$100 invested on 5/31/1214 in stock or index, including reinvestment of dividends.dividends

 

The stock price performance included in this graph is not necessarily indicative of future stock price performance.

 

Item 6 | Selected Financial Data

Item 7 | Management’s Discussion and Analysis of Financial Condition and Results of Operations

General

 

The following discussion and analysis of the Company’s financial position and results of operations should be read in conjunction with the Company’s Consolidated Financial Statements and the related Notes included in Item 8, “Consolidated Financial Statements and Supplementary Data.”

 

Overview and Outlook

 

Critical Accounting Policies and Estimates

 

General:

The Company’s discussion and analysis of its financial condition and results of operations is based upon its Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements involves the use of estimates and assumptions by management, which affects the amounts reported in the Consolidated Financial Statements and accompanying notes. The Company bases its estimates on historical experience, current business factors, future expectations and various other assumptions believed to be reasonable under the circumstances, all of which are necessary in order to form a basis for determining the carrying values of assets and liabilities. Actual results may differ from those estimates and assumptions. On an on-going basis, the Company evaluates the adequacy of its reserves and the estimates used in calculations, including, but not limited to: collectability of accounts receivable; salesvariable consideration related to anticipated returns; allocation of transaction price to contractual performance obligations; amortization periods; stock-based compensation expense; pension and other post-retirementpostretirement obligations; tax rates; recoverability of inventories; deferred income taxes and tax reserves; the timing and amount of future income taxes and related deductions; fixed assets; prepublication costs; royalty advance reserves; customer reward programs; and the fair valueimpairment assessment of goodwill and other intangibles. For a complete description of the Company’s significant accounting policies, see Note 1 of Notes to Consolidated Financial Statements in Item 8, “Consolidated Financial Statements and Supplementary Data,Data.” of this Report. The following policies and account descriptions include all those identified by the Company as critical to its business operations and the understanding of its results of operations:

 

Revenue Recognition:

The Company’s revenue recognition policies for its principal businesses are as follows:

 

 

Trade – Revenue from the sale of children’s books for distribution in the retail channel is primarily recognized when risksperformance obligations are satisfied and benefits transfercontrol is transferred to the customer, or when the product is on sale and available to the public. For newly published titles, the Company, on occasion, contractually agrees with its customers when the publication may be first offered for sale to the public, or an agreed upon “Strict Laydown Date.”" For such titles, the risks and benefitscontrol of the publication areproduct is not deemed to be transferred to the customer until such time that the publication can contractually be sold to the public, and the Company defers revenue on sales of such titles until such time as the customer is permitted to sell the product to the public. Revenue for ebooks, which is generally is the net amount received from the retailer, is recognized upon electronic delivery to the customer by the retailer.

 

 

Film Production and Licensing – Revenue from the sale of film rights, principally for the home video and domestic and foreign television markets, is recognized when the film has been delivered and is available for showing or

exploitation. Licensing revenue is recognized in accordance with royalty agreements at the time the licensed materials are available to the licensee and collections are reasonably assured.

 

 

 

 

Accounts receivable:

Accounts receivable are recognized net of allowances for doubtful accounts and reserves for returns.accounts. In the normal course of business, the Company extends credit to customers that satisfy predefined credit criteria. Reserves for returns are based on historical return rates, sales patterns, typeThe Company is required to estimate the collectability of product and expectations. In order to develop the estimate of returns that will be received subsequent to May 31, 2017, management considers patterns of sales and returns in the months preceding May 31, 2017, as well as actual returns received subsequent to year end, available customer and market specific data and other return rate information that management believes is relevant.its receivables. Reserves for estimated bad debts are established at the time of sale and are based on an evaluation of accounts receivable aging and, where applicable, specific reserves on a customer-by-customer basis, creditworthiness of the Company’s customers and prior collection experience to estimate the ultimate collectability of these receivables. At the time the Company determines that a receivable balance, or any portion thereof, is deemed to be permanently uncollectible, the balance is then written off. A one percentage point change in the estimated bad debt reserve rates, which are applied to the accounts receivable aging, would have resulted in an increase or decrease in operating income for the year ended May 31, 20172019 of approximately $2.3 million.

 

Inventories:

Inventories, consisting principally of books, are stated at the lower of cost, using the first-in, first-out method, or market.net realizable value. The Company records a reserve for excess and obsolete inventory based upon a calculation using the historical usage rates by channel and the sales patterns of its products, and specifically identified obsolete inventory. The impact of a one percentage point change in the obsolescence reserve rate would have resulted in an increase or decrease in operating income for the year ended May 31, 20172019 of approximately $3.5$3.7 million.

 

Royalty advances:

Royalty advances are initially capitalized and subsequently expensed as related revenues are earned or when the Company determines future recovery through earndowns is not probable. The Company has a long history of providing authors with royalty advances, and it tracks each advance earned with respect to the sale of the related publication. Historically, the longer the unearned portion of the advance remains outstanding, the less likely it is that the Company will recover the advance through the sale of the publication, as the related royalties earned are applied first against the remaining unearned portion of the advance. The Company applies this historical experience to its existing outstanding royalty advances to estimate the likelihood of recovery. Additionally, the Company’s editorial staff regularly reviews its portfolio of royalty advances to determine if individual royalty advances are not recoverable through earndowns for discrete reasons, such as the death of an author prior to completion of a title or titles, a

Company decision to not publish a title, poor market demand or other relevant factors that could impact recoverability.

 

Goodwill and intangible assets:

Goodwill and other intangible assets with indefinite lives are not amortized and are reviewed for impairment annually or more frequently if impairment indicators arise.

 

With regard to goodwill, the Company compares the estimated fair values of its identified reporting units to the carrying values of their net assets. The Company first performs a qualitative assessment to determine whether it is more likely than not that the fair values of its identified reporting units are less than their carrying values. If it is more likely than not that the fair value of a reporting unit is less than its carrying amount, the Company performs the two-step goodwill impairment test. For each of the reporting units, the estimated fair value is determined utilizing the expected present value of

Components within the same operating segment that do not share similar economic characteristics are deemed to be individual reporting units for goodwill impairment testing purposes. 

The Company has seven reporting units with goodwill subject to impairment testing. The determination of the fair value of the Company’s reporting units involves a number of assumptions, including the estimates of future cash flows, discount rates and market-based multiples, among others, each of which is subject to change. Accordingly, it is possible that changes in assumptions and the performance of certain reporting units could lead to impairments in future periods, which may be material. 

 

With regard to other intangibles with indefinite lives, the Company determines the fair value by asset, which is then compared to its carrying value. The Company first performs a qualitative assessment to determine whether it is more likely than not that the fair value of the identified asset is less than its carrying value. If it is more likely than not that the fair value of the asset is less than its carrying amount, the Company performs a quantitative test. The estimated fair value is determined utilizing the expected present value of the projected future cash flows of the asset.

 

Intangible assets with definite lives consist principally of tradenames, customer lists, intellectual property and other agreements and are amortized over their expected useful lives. Customer lists are amortized on a straight-line basis over five to ten years, while other agreements are amortized on a straight-line basis over their contractual term.useful life. Intellectual property assets are amortized over their remaining useful lives, which is approximately five years.

Employee Benefit Plan Obligations:

The rate assumptions discussed below impact the Company’s calculations of its UK pension and post-retirementU.S. postretirement obligations. The rates applied by the Company are based on the portfolios’UK pension plan asset portfolio's past average rates of return, discount rates and actuarial information and, with regard to the U.S. Pension Plan, assumptions related to the plan's expected termination.information. Any change in market performance, interest rate performance, assumed health care cost trend rate and compensation rates or, with regard to the U.S. Pension Plan, estimated lump sum payments and expected fair value of annuity contracts could result in significant changes in the Company’s UK pension plan and post-retirementU.S. postretirement obligations. The U.S. Pension Plan was terminated in fiscal 2018.

Pension obligations

    

UK Pension Plan

The Company’s UK Pension Plan calculations are based on three primary actuarial assumptions: the discount rate, the long-term expected rate of return on plan assets and the anticipated rate of compensation increases. The discount rate is used in the measurement of the projected, accumulated and vested benefit obligations and interest cost component of net periodic pension costs. The long-term expected return on plan assets is used to calculate the expected earnings from the investment or reinvestment of plan assets. The anticipated rate of compensation increaseincreases is used to estimate the increase in compensation for participants of the plan from their current age to their assumed retirement age. The estimated compensation amounts are used to determine the benefit obligations and the service cost component of net periodic pension costs.

would have resulted in an increase or decrease in operating income for the year ended May 31, 20172019 of approximately $0.1 million. A one percentage point change$0.5 million and approximately $0.6 million, respectively.

The Company's U.S. Pension Plan was terminated in the expected long-term return on plan assets would have resultedfiscal 2018. There are no actuarial assumptions reflected in an increase or decrease in operating income for the year ended May 31, 2017 of approximately $1.5 million.any U.S. Pension Plan estimates and there is no ongoing net periodic benefit cost.

 

A one percentage point change in the discount rate would have resulted in an increase or decrease in operating income for the year ended May 31, 20172019 of approximately $0.2$0.1 million and $0.7approximately $0.4 million, respectively. The assumed health care cost trend rate is used in the measurement of the long-term expected increase in medical claims. A one percentage point change in the health care cost trend rate would have resulted in an increase or decrease in operating income for the year ended May 31, 20172019 of approximately $0.1 million. A one percentage point change in the health care cost trend rate would have resulted inmillion and an increase or decrease in the post-retirementpostretirement benefit obligation as of May 31, 20172019 of approximately $3.0$2.1 million and $2.6approximately $1.9 million, respectively.

Equity Awards:

Taxes:

Income Taxes – The Company uses the asset and liability method of accounting for income taxes. Under this method, for purposes of determining taxable income, deferred tax assets and liabilities are determined based on differences between financial reporting and tax basesbasis of such assets and liabilities and are measured using enacted tax rates and laws that will be in effect when the differences are expected to be realized.

 

The Company believes that its taxable earnings, during the periods when the temporary differences giving rise to deferred tax assets become deductible or when tax benefit carryforwards may be utilized, should be sufficient to realize the related future income tax benefits. For those jurisdictions where the expiration date of the tax benefit carryforwards or the projected taxable earnings indicate that realization is not likely, the Company establishes a valuation allowance.

 

In assessing the need for a valuation allowance, the Company estimates future taxable earnings, with consideration for the feasibility of on-going tax planning strategies and the realizability of tax benefit carryforwards, to determine which deferred tax assets are more likely than not to be realized in the future. Valuation allowances related to deferred tax assets can be impacted by changes to tax laws, changes to statutory tax rates and future taxable earnings. In the event that actual results differ from these estimates in future periods, the Company may need to adjust the valuation allowance. 

The Company recognizes a liabilityaccounts for uncertain tax positions using a two-step method. Recognition occurs when an entity concludes that the Company has taken or expectsa tax position, based solely on technical merits, is more likely than not to file in an income tax return. An uncertainbe sustained upon examination. If a tax position is recognized only if it is “moremore likely than not” thatnot to be sustained upon examination, the position is sustainable based on its technical merit. Aamount recognized tax benefit of a qualifying position is the largest amount of tax benefit, thatdetermined on a cumulative probability basis, which is greatermore likely than 50% likely of beingnot to be realized upon settlementsettlement. The Company assesses all income tax positions and adjusts its reserves against these positions periodically based upon these criteria. The Company also assesses potential penalties and interest associated with these tax positions, and includes these amounts as a taxing authority having full knowledgecomponent of all relevant information.income tax expense.

The Company assesses foreign investment levels periodically to determine if all or a portion of the Company’s investments in foreign subsidiaries are indefinitely invested. IfAny required adjustment to the income tax provision would be reflected in the period that the Company changes this assessment.

On December 22, 2017, the U.S. enacted the Tax Cuts and Jobs Act. The Act imposes a new minimum tax on global intangible low-taxed income ("GILTI") earned by foreign investments are notsubsidiaries. The Financial Accounting Standards Board ("FASB") Staff Q&A, Topic 740 No. 5, Accounting for Global Intangible Low-Taxed Income, states that an entity may make an accounting policy election to either recognize deferred taxes for temporary differences expected to be indefinitely invested,reserved as GILTI in future years or provide for the tax expense related to GILTI in the year the tax is incurred. The Company provides for income taxeselects to recognize the tax on GILTI as a period expense in the portion thatperiod the tax is not indefinitely invested.incurred.

Non-income Taxes – The Company is subject to tax examinations for sales-based taxes. A number of these examinations are ongoing and, in certain cases, have resulted in assessments from taxing authorities. Where a sales tax liability inwith respect to a jurisdiction is probable and can be reliably estimated, the Company has made accruals for these matters whichand these amounts are reflectedincluded in the Company’s Consolidated Financial Statements.Statements of Operations in Selling, general and administrative expenses. Future developments relating to the foregoing could result in adjustments being made to these accruals.

Results of Operations

 

Results of Operations – Consolidated

Fiscal 20172019 compared to fiscal 2016

Revenues from continuing operations for the fiscal year ended May 31, 2018 decreased by $113.2 million, or 6.5%, to $1,628.4 million, compared to $1,741.6 million in the prior fiscal year. The decrease in revenue was primarily due to lower sales of Harry Potter publishing, frontlist and backlist, includingcompared to the prior fiscal year, which included the

Cost of goods sold as a percentage of revenue for the fiscal year ended May 31, 20172018 was 46.8%45.7%, compared to 45.6%46.8% in the prior fiscal year. The higher costdecrease in Cost of goods sold as a percentage of revenue was driven byprimarily due to the lower royalty costs associated with higherthe decrease in sales of Harry PotterPotter-related titles and favorable product mix in the book fair channel, partially offset by the favorableunfavorable impact higherlower revenues had on fixed costs coupled withand a favorable product mix andinventory adjustment in the Company's decision to exitbook club channel that yielded lower costs in the low margin software distribution business in Australia.prior fiscal year.