Annual Report pursuant to section 13 or 15(d) of
the Securities Exchange Act of 1934
For the fiscal year ended May 31, 20042006 | Commission File No. 000-19860
Scholastic Corporation
(Exact name of Registrant as specified in its charter)
| Delaware | 13-3385513 |
| (State or other jurisdiction of | (IRS Employer Identification No.) |
incorporation or organization) | |
| 557 Broadway, New York, New York | 10012 |
| (Address of principal executive offices) |
|
| Title of class | Name of Each Exchange on Which Registered |
| Common Stock, $0.01 par value | The NASDAQ Stock Market LLC |
Securities Registered Pursuant to Section 12(g) of the Act:
NONE
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. YesxNoo
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of Act. YesoNox
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X xNo _o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X]o
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
x Large accelerated filer oAccelerated filer oNon-accelerated filer
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act Rule 12b-2).Yes X Act).YesoNo _x
The aggregate market value of the Common Stock, par value $0.01, held by non-affiliates as of July 26, 2004,November 30, 2005, was approximately $854,089,000.$1,115,228,000. 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.
The number of shares outstanding of each class of the Registrant’s voting stock as of July 26, 20042006 was as follows: 37,947,91740,355,315 shares of Common Stock and 1,656,200 shares of Class A Stock.
Documents Incorporated By Reference
Part III incorporates certain information by reference from the Registrant’s definitive proxy statement for the Annual Meeting of Stockholders to be held September 21, 2004.20, 2006.
Table of Contents
| PAGE | |||
| Part I | |||
Item 1. | Business | 1 | |
Item 1A. | Risk Factors | 12 | |
Item 1B. | Unresolved Staff Comments | 15 | |
Item 2. | Properties | 15 | |
Item 3. | Legal Proceedings | 15 | |
Item 4. | Submission of Matters to a Vote of Security Holders | 15 | |
| Part II | |||
Item 5. | Market for the Registrant’s Common Equity, Related Stockholder | ||
| Matters and Issuer Purchases of Equity Securities | 16 | ||
Item 6. | Selected Financial Data | 17 | |
Item 7. | Management’s Discussion and Analysis of Financial Condition and | ||
| Results of Operations | 18 | ||
Item 7A. | Quantitative and Qualitative Disclosures about Market Risk | 31 | |
Item 8. | Consolidated Financial Statements and Supplementary Data | 32 | |
| Consolidated Statements of Income | 33 | ||
| Consolidated Balance Sheets | 34 | ||
| Consolidated Statements of Changes in Stockholders’ Equity | |||
| and Comprehensive Income | 36 | ||
| Consolidated Statements of Cash Flows | 38 | ||
| Notes to Consolidated Financial Statements | 39 | ||
| Reports of Independent Registered Public Accounting Firm | 60 | ||
| Supplementary Financial Information | 62 | ||
Item 9. | Changes in and Disagreements with Accountants on Accounting | ||
| and Financial Disclosure | 62 | ||
Item 9A. | Controls and Procedures | 63 | |
Item 9B. | Other Information | 63 | |
| Part III | |||
Item 10. | Directors and Executive Officers of the Registrant | 64 | |
Item 11. | Executive Compensation | 64 | |
Item 12. | Security Ownership of Certain Beneficial Owners and Management | ||
| and Related Stockholder Matters | 64 | ||
Item 13. | Certain Relationships and Related Transactions | 64 | |
Item 14. | Principal Accountant Fees and Services | 64 | |
| Part IV | |||
Item 15. | Exhibits, Financial Statement Schedules and Reports on Form 8-K | 65 | |
| Signatures | 68 | ||
| Power of Attorney | 68 | ||
| Schedule II: Valuation and Qualifying Accounts and Reserves | S-2 | ||
Part I
Item 1 | Business
Overview
Scholastic Corporation (the “Corporation” and together with its subsidiaries, “Scholastic” or the “Company”) is a global children’s publishing, education and media company. Since its founding in 1920, Scholastic has emphasized quality products and a dedication to reading and learning. The Company believes that it is the world’s largest publisher and distributor of children’s books.books and a leading developer of educational technology. Scholastic also creates quality educational and entertaining materials and products for use in school and at home, including children’s books, textbooks, magazines, technology-based products,children’s reference and non-fiction materials, teacher materials, television programming, film, videos and toys. The Company distributes its products and services throughis a varietyleading operator of channels, including school-based book clubs school-basedand book fairs and school-based and direct-to-home continuity programs in the United States, and the Company distributes products and services through these proprietary channels, as well as directly to schools and libraries and to consumers through retail stores, schools, librariesthe internet and television networks. The Company’s website, scholastic.com,www.scholastic.com, is a leading site for teachers, classrooms and parents, and an award-winning destination for children. With the June 2000 acquisition of Grolier Incorporated (“Grolier”), the Company became the leading operatorIn addition to its operations in the United States, of direct-to-home book clubs primarily serving children age five and under, and the leading print and on-line publisher of children’s reference and non-fiction products sold primarily to United States school libraries. Internationally, Scholastic has long-established operations in Canada, the United Kingdom, Australia, and New Zealand and Southeast Asia and has newer operations in Argentina, Hong Kong,China, India, Ireland and Mexico. The Grolier acquisition expanded the Company’s international operations in Canada, the United Kingdom, Australia and Southeast Asia.
During its 84 years of operation, Scholastic has emphasized quality products and a dedication to learning. Scholastic Corporation was incorporated under the laws of Delaware in 1986 and, through predecessor entities, has been in business since 1920. Grolier, through its predecessor entities, has been in business since 1895.
Operating Segments
The Company categorizes its businesses into four operating segments:Children’s Book Publishing and Distribution; Educational Publishing; Media, Licensing and Advertising(which collectively represent the Company’s domestic operations); andInternational. This classification reflects the nature of products and services consistent with the method by which the Company’s chief operating decision-maker assesses operating performance and allocates resources. DuringRevenues and operating margin related to a segment’s products sold or services rendered through another segment are reallocated to the three-year period ended May 31, 2004, Scholastic’s revenues have grown at an average annual compounded rate of 4.4%.segment originating the products or services. The following table sets forth revenues by operating segment for the three fiscal years ended May 31:
| (Amounts in millions) | ||||||||
| 2006 | 2005 | 2004 | ||||||
| Children’s Book Publishing | ||||||||
| and Distribution | $ | 1,304.0 | $ | 1,152.5 | $ | 1,358.6 | ||
| Educational Publishing | 416.1 | 404.6 | 369.1 | |||||
| Media, Licensing and Advertising | 151.6 | 133.1 | 136.4 | |||||
| International | 412.1 | 389.7 | 369.7 | |||||
| Total | $ | 2,283.8 | $ | 2,079.9 | $ | 2,233.8 | ||
(Amounts in millions) 2004 2003 2002 Children’s Book Publishing
and Distribution $ 1,358.6 $ 1,189.9 $ 1,168.6 Educational Publishing 369.1 325.9 316.9 Media, Licensing and Advertising 136.4 123.5 129.8 International 369.7 319.0 301.7 Total $ 2,233.8 $ 1,958.3 $ 1,917.0
Additional financial information covering the Company’s operating segments is included in Note 2 of Notes to Consolidated Financial Statements in Item 8, “Consolidated Financial Statements and Supplementary Data,” which is incorporated herein by reference.included herein.
| CH I L D R E N’S BO O K PU B L I S H I N G A N D DI S T R I B U T I O N |
| (57.1% of fiscal 2006 revenues) |
General
The Company’sChildren’s Book Publishing and Distributionsegment includes the publication and distribution of children’s books in the United States through school-based book clubs and book fairs, school-based and direct-to-home continuity programs and the trade channel.
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The Company believes it is the world’s largest publisher and distributor of children’s books and is the largest 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 books distributed through the trade channel and the leading distributor in the United States of children’s books through direct-to-home continuity programs primarily for children ages five and younger. In fiscal 2004,2006, the Company distributed in excess of 350approximately 400 million children’s books in the United States.
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Scholastic offers a broad range of quality children’s literature.books. Many of the Company’s books have received awards for excellence in children’s literature, including the Caldecott and Newbery awards.Awards.
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 writtencreated under exclusive publication agreements with authors, illustrators, book packagers or other media companies. Scholastic generally ownscontrols the exclusive rights to sell these titles through all channels of distribution in allthe United States channels of distribution.and, to a lesser extent, internationally. Scholastic’s second source of titles is licenses to publish books exclusively in specified channels of distribution, including reprints of books originally published by other publishers,others for which the Company acquires rights to sell in the school market and licenses to publish booksoriginal publications for exclusive sale in direct-to-home continuity programs. The third source of titles is the Company’s purchase of finished books from other publishers to be sold in the school market. At May 31, 2004, the Company’s active backlist (a list of titles published as new titles in prior years) included more than 6,000 titles.
School-Based Book Clubs
Scholastic founded its first school-based book club in 1948. The Company operates a number ofCompany’s core school-based book clubs including: consist ofFireflyHoneybee®, serving children ages 1½ to 4;Firefly®, serving pre-kindergarten (“pre-K”) and kindergarten (“K”) students;SeeSaw®, serving students grades K to 1;Lucky®, serving students grades 2 to 3;Arrow®, serving students grades 4 to 6;TAB®, serving students grades 7 to 12; three Trumpet® clubs, serving students pre-K to grade 6; three Troll®/Carnival® clubs, serving students K to grade 6; Honeybee®, serving children ages 11/2 to 4; andClub LeoLeo™™, which provides Spanish language offers to students pre-K to grade 8. In fiscal 2006, the Company announced that it would offer only these core clubs and would no longer offer two of its smaller clubs,Trumpet®andTroll®/Carnival®.In addition to its regular offers, the Company creates special theme-based offers targeted to different grade levels during the year, such as holiday offers, science offers, curriculum offers and teen offers.year.
The Company estimates that over 80% of all elementary school teachers in the United States participate in the Company’s school-based book clubs. The Company believes that teachers participate in school-based book clubs because it is their opinion that quality books at affordable prices will be of interest to families and will improve students’ reading skills. The Company also believes that teachers participate because the school-based book clubs offer easy access to a broad range of books.
The Company mails promotional materials containing order forms to teachers in the vast majority of the pre-K to grade 8 classrooms in the United States. Teachers who wish to participate in a school-based book club distribute the order forms to their students, who may choose from generally 7580 or more selections at substantial reductions from list prices. The teacher consolidatesaggregates the students’ orders and forwards them to the Company by internet, phone, fax, mail or fax. In fiscal 2006, orders through the Internet, which in fiscal 2004internet accounted for approximately 30%45% of total book club orders. The orders are then shipped to the teacher for distribution to the students. Teachers who participate in the book clubs receive bonus points, for use by their school, which may be redeemed for the purchase of additional books and other itemsresource materials for their classrooms.classrooms or the school.
School-Based Book Fairs
Scholastic entered the school-based book fair business in 1981. TheSince that date, the Company has grown this business by expanding into new markets, including through selected acquisitions, and by increasing its business in its existing markets by reaching new school customers, holding more fairs
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per year at its existing school customers and(i) growing revenue on a per fair basis.basis, and (ii) increasing the number of fairs held at its existing school customers. The Company is the leading operator of school-based book fairs in the United States.
Book fairs are generally week-long events conducted on school premises, operated by school librarians and/or parent-teacher organizations. Book fair events provide children with access to hundreds of different titles and allow them to purchase books and other select products of their choice at the school. Although the Company provides the school with the books and book display cases, the school itself conducts the book fair.fair as a fundraiser for a variety of purposes, such as to purchase books, supplies and equipment for the school. The Company believes that thea primary motivation for schools sponsoring fairs is to make quality books available to their students at reasonable prices in order to stimulate interest in reading. In addition, the school retains a portion of the book fair revenues, which can then be used to purchase books, supplies and equipment for the school.
The Company operates school-based book fairs in all 50 states under the nameScholastic Book Fairs®. Books and display cases are delivered to schools from the Company’s warehouses principally by a fleet of leased vehicles. Sales and customer service functions are performed from regional sales offices supported by field representatives. The Company believes that its competitive advantages in the book fair business include the strength of the relationship between its sales representatives and schools, broad geographic coverage, quality customer service and breadth of product selection. Over 90% of the schools that
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sponsored a Scholastic book fair in fiscal 20032005 sponsored a Scholastic book fair again in fiscal 2004.2006.
Continuity Programs
The Company operates continuity programs whereby children and their families generally place an order to receive multiple shipments of children’s books over a single order and receive more than one shipmentperiod of books.time. Continuity programs are promoted through (i) direct-to-home offers, primarily through telemarketing, direct mail, and print and on-line advertisements, telemarketing, print promotions and the internet, and (ii) offers in the Company’s school-based book clubs. The Company’s direct-to-home continuity business acquired as part of the Grolier acquisition, is the leading direct-to-home seller of children’s books primarily servingfor children age five and under. In fiscal 2004,2006, the Company’s direct-to-home continuity business included Scholastic publishing properties, such asClifford & Company™, Hello Kitty™, Scooby Doo and Nick Jr., as well as programs previously operated by Grolier, such as Disney Book Club™, Barbie™, Dr. Seuss™ Beginning Readers Program and The New Book of Knowledge®® encyclopedia. In fiscal 2002, the Company acquired Baby’sencyclopedia,My First Steps to Reading®andScholastic’s Phonics Reading Program, as well as licensed programs, such asDisney Book Club™,Dr. Seuss™ Beginning Readers Program, Nick Jr.™ Book Club®, a direct marketer through continuity programs of age-appropriate books and toys for young children.Veggie Tales™. Continuity programs offered primarily through Scholastic’s school-based book clubs includeSpy University™University™, Nick Zone™, How to Survive, Care Bears®, Thomas and Friends™andClifford The Big Red Dog®®, Nick Zone, Space University™ and DisneyPrincess.
Trade
Scholastic is one of thea leading sellerspublisher of children’s books sold through bookstores and mass merchandisers in the United States. The Company maintains overapproximately 6,000 titles for trade distribution. Scholastic’s original publications includeHarry Potter®, I Spy™Spy™, Clifford The Big Red Dog®, Goosebumps®, The Baby-sitters Club®, The Magic School Bus®, Captain Underpants® and , Geronimo Stilton®andGoosebumps®and licensed properties such asBarneyScooby-Doo®, Star WarsScooby Doo®, Lego™, Care BearsandTaggies® and Shrek 2®. In fiscal 2002,addition, the Company purchasedCompany’s Klutz®imprint is a publisher and creator of “books plus” products for children. children, including titles such asHow to Make Paper Airplanes.
The Company’s trade sales organization focuses on marketing and selling Scholastic’s publishing properties to book stores,bookstores, mass merchandisers, and specialty sales outlets.
The Company’s fiscal 2004 sales in the trade market were led by the Harry Potter series of books. Otheroutlets and other book retailers. Scholastic bestsellers during fiscal 20042006 included books from theCliffordHarry Potter, I Spy, Taggies, How Do Dinosaurs™andCharlie Bone™series and individual titles, such asInkspell, Over the HedgeandRead and Learn Bible.
Other
Also included in this segment is The Big Red Dog, I SpyBook People, a direct seller of children’s and Captain Underpants series.adult books to offices and other point of sale locations through display marketing and corporate book fairs.
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EDUCATIONAL D U C A T I O N A LPUBLISHINGU B L I S H I N G
(16.5%18.2% of fiscal 20042006 revenues)
General
The Company’sEducational Publishingsegment includes the production and/or publication and distribution to schools and libraries of educational technology products, curriculum materials, children’s books, classroom magazines and print and on-line reference and non-fiction products for grades pre-K to 12 in the United States.
The Company is a leading provider of educational technology products and reading materials for schools and libraries. Scholastic has been providing quality, innovative educational materials to schools and libraries since it began publishing classroom magazines in the 1920’s.1920s. The Company added supplementary books and texts to its product line in the 1960’s,1960s, professional books for teachers in the 1980’s1980s and early childhood products and core curriculum materials in the 1990’s.1990s. In 1996, the Company strengthened its Spanish language offerings through the acquisition of Lectorum Publications, Inc., the largest Spanish language book distributor to schools and libraries in the United States. ThroughAs a result of the acquisition of Grolier Incorporated (“Grolier”) in June 2000, the Company becameis the leading print and on-line publisher of children’s reference and non-fiction products sold primarily to school libraries in the United States. In 2002, the Company acquired Tom Snyder Productions, Inc., a developer and publisher of interactive educational software. The Company markets and sells itsEducational Publishingproducts through a
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Curriculum Publishing and Teaching Resources
Scholastic’s curriculum publishing and teaching resources operations develop and distribute instructional materials directly to schools in the United States.States, primarily purchased through school and district budgets. These operations also include reading improvement programs individual paperbacks and educational technology products, paperback collections for classroom libraries and professional books designed for, and generally purchased by, teachers.books.
The Company focuses its supplemental and core curriculum publishing efforts on reading improvement materials mostand the effective use of which use technology to support learning. Scholastic’s technology-based reading improvement programs are led by includeReadREAD 180®, a reading intervention program for students in grades 4 to 12 reading at least two years below grade level, and other technology-based products such as SCHOLASTIC ZIP ZOOM™ for grades K to 3, which supports beginning reading skills for English language learners,WiggleworksReadAbout®,for grades 3 to 6, which assists in teaching reading to students,combines adaptive technology with engaging non-fiction content, andScholastic Reading Counts!™™, which encourages reading through a school-managed incentive program. Other reading improvement products include In fiscal 2006, Scholastic Read XLintroduced the upgradedREAD 180 Enterprise Edition,®which supports larger installations in schools and provides improved student data management, and launchedFASTT Math™, a technology-based program for students in grades 6 to 8, which provides high-interest and increasingly demanding text to assist students reading one to three years below grade level; Building Language for Literacy™, a program of books and audio tapes to guide children throughimprove math fluency, developed with the critical pre-K to K stagescreator of literacy development; and Scholastic Phonics Reading ProgramREAD 180™, which is a beginning phonics instruction program for grades K to 1. In fiscal 2002, the Company acquired the assets of Tom Snyder Productions, Inc., a leading developer and publisher of interactive educational software..
The teaching resources group publishes professional books designed for and generally purchased by teachers and distributes individual paperbacks andpaperback collections to schools and school districts. In addition, the Company provides paperbacksdistricts for classroom libraries and collectionsother uses, as well as to literacy organizations. In fiscal 2002, theThe Company launchedoperates an on-line Teacher Store, which provides professional books and other educational materials to schools and teachers. Scholastic.comteachers, and www.scholastic.com is a leading website for teachers and classrooms, offering multimedia teaching units, lesson plans, teaching tools and on-line activities. In fiscal 2002, the Company acquired Teacher’s Friend Publications, Inc., a leading producer and marketer of materials that teachers use to decorate their classrooms.
Classroom Magazines
Scholastic is a leading publisher of classroom magazines. Teachers in grades Kpre-K to 12 use these magazines as supplementary educational materials. The Company’s 3431 classroom magazines supplement the school’s formal learning programprograms by bringing subjects of current interest into the classroom. The magazines are designed to encourage students to read and also to cover diverse subjects, including English, reading, literature, math, science, current events, social studies and foreign languages. The most well
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known of the Company’s domestic magazines areScholastic News® and , Junior Scholastic®andLet’s Find Out®.
Scholastic’s classroom magazine circulation in the United States in fiscal 20042006 was more than 7.58.2 million, with approximately two-thirds of the circulation in grades Kpre-K to 6. In fiscal 2004,2006, teachers in over 60%approximately 65% of the elementary schools and in approximately 70% of the secondary schools in the United States used the Company’s classroom magazines. The various classroom magazines are distributed either on a weekly, bi-weeklybiweekly or monthly basis during the school year.year and are supplemented by timely materials featured on www.scholastic.com.
The majority of the magazines purchased are paid for with school or district funds, with teachers or students paying for the balance. Circulation revenue accounted for substantially all of the classroom magazine revenues in fiscal 2004.2006.
Library Publishing
Scholastic is a leading publisher of quality children’s reference and non-fiction products and encyclopedias sold primarily to schools and libraries in the United States. Products includeGrolier Online®, which provides subscriptions to reference databases for schools and libraries,Encyclopedia Americana®, andThe New Book of Knowledge® and Cumbre™, a Spanish language encyclopedia, as well as reference materials published under the Grolier®name. Grolier Online® provides subscriptions to reference databases for schools and libraries. The Company’s products also include non-fiction books published in the United States under the imprints Children’s Press®and Franklin Watts®., including books from theAmerica the Beautiful, Enchantment of the WorldandTrue Booksseries.
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MEDIA, E D I A, LICENSING AND I C E N S I N G A N D ADVERTISINGD V E R T I S I N G
(6.1%6.7% of fiscal 20042006 revenues)
General
The Company’sMedia, Licensing and Advertisingsegment includes the production and/or distribution of media and electronic products and programs (including children’s television programming, videos, DVD’s, software, in the United States; the production and/or distribution primarily byfeature films, interactive programs, promotional activities and through the Company’s subsidiary,non-book merchandise); and advertising revenue, including sponsorship programs.
Production and Distribution
Through Scholastic Entertainment Inc. (“SEI”); of programming and consumer products (including children’s television programming, videos, software, feature films, promotional activities and non-book merchandise), and advertising revenue; including sponsorship programs.
Production and Distribution
Through SEI, Soup2Nuts Inc. (“S2N”) and the Weston Woods Studio, the Company creates and produces television programming, videos, DVD’s, feature films, software and branded websites. SEI builds consumer awareness and value for the Company’s publishing franchises by creating family-focused programmingshows that form the basis for global branding campaigns. SEI generates revenue by exploiting programmingthese assets globally across multiple media formats and by developing and executing brand-marketing campaigns.
SEI has built a television library of over 315400 half-hour productions, including:Clifford The Big Red Dog®, Clifford’s Puppy Days™Days™, Maya & Miguel™, The Magic School Bus®, I Spy, Goosebumps, Animorphs™®, Goosebumps®, Animorphs®, Dear America®andThe Baby-sitters Club®. These series have been sold in the United States and internationally. Since its debut, internationally in various media formats. SEI has produced 39 episodes ofClifford’s Puppy Days, an animated spin-off of the award-winningClifford The Big Red Dog,series, 14 of which were completed in fiscal 2006. SEI has also produced 65 episodes of an award-winningoriginal animated series, based on the Company’s best-selling books by Norman Bridwell, has consistently been the top rated show with children age 5 and under. A totalMaya & Miguel, 30 of 65 episodes have been produced, and the show has been licensed for broadcastwhich were completed in over 85 countries.fiscal 2006. In Februaryfiscal 2004, SEI released producedClifford’s Really Big Movie, a feature length film. During fiscal 2004, SEI completed production of 25 episodes of itsIn May 2006, the Company announced that it would be participating in a new series Clifford’s Puppy Days,children’s programming network featuring bilingual content, with a Clifford brand extension, which launchedmission to promote literacy and values in September 2003. Also in fiscal 2004, SEI produced 13 additional episodes of I Spy™, based on the Company’s best-selling book series, and commenced production of 65 episodes of its original television series, Maya & Miguel, which is expected to be launched on PBS Kids in the fall of 2004.children’s television.
In fiscal 2002, the Company acquired S2N, an award-winning producer of animated television and web programming, as part of the acquisition of the assets of Tom Snyder Productions, Inc. S2N has produced over 60100 half-hour episodes of television programming, primarily ofincluding the animated shows for adults, such as seriesHome MoviesO’Grady™™ andHey Monie.Time Warp Trio.
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Weston Woods Studios creates audiovisual adaptations of classic children’s picture books, such asWhere the Wild Things Are, ChrysanthemumandMake Way for Ducklings, that are initially produced for the school and library market as a supplemental educational resource. SEI has repackaged 1635 titles for sale to the consumer market under theScholastic Video Collectionbanner. Weston Woods Studios has received numerous awards, including five Andrew Carnegie Medals for Excellence in Children’s Video and an Academy Award nomination.
Brand Marketing and Consumer Products
SEI creates and develops award-winning global branding campaigns for Scholastic properties in order to extend and strengthen Scholastic’s consumer connection with parents, children and teachers. The Clifford The Big Red Dog series is part of a comprehensive brand marketing campaign, including home entertainment, consumer products, publishing extensions, such as television tie-in books, interactive media and consumer promotions, supporting Clifford’s position as a leading pre-school brand. In connection with its branding campaigns, SEI has received numerous marketing and licensing awards, including a 2003 LIMA award for Clifford as “Best Character License.”
In addition to licensing rights for consumer products, SEI creates,designs, manufactures and distributes consumer products primarily based on Scholastic’s literary properties, such as a line of upscale plush toys and wooden puzzles based onClifford The Big Red Dog,®, The Magic School Bus,®, The Real Mother Goose®, Maya & Miguel, Kim Parker Kids™, No David!™, Fergus™™ andStellalunaDear Mrs. LaRue™™. The products are available through independent toy/gift stores, specialty chains, department stores, mail order catalogs and bookstores, as well as through Scholastic’s school-based book clubs, school-based book fairs and continuity programs. SEI also developed, in conjunction with Toys “R” Us, a major toy retailer, a line of Scholastic-branded learning toys that are merchandised in Scholastic boutiques at Toys “R” Us stores in the United States and Canada.
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Consumer Software
Scholastic distributes original and licensed consumer software, handheld and console products and accessories and DVD’s for grades K to 8 through its school-based software clubs, school-based book clubs, school-based book fairs and continuity programs, as well as the school-based library/teacher market and the trade market. The Company acquires software and multi-media products for distribution in all of these channels through a combination of licensing, purchases of product from software publishers and internal development. Scholastic’s school-based software clubs are marketed in the same manner as its school-based book clubs. The Company’s original CD-ROM titles include the award-winning seriesClifford®, I Spy, Clifford™ andMath Missions®. The Company and Fisher-Price have jointly developed interactive educational products that were launched in the fall of 2005, including theMath MissionsRead with Me DVD!.learning system.
Advertising
Certain of the Company’s magazine properties generate advertising revenues as their primary source of revenue, includingInstructor™, Scholastic Administrator™, Instructor New Teacher®, Scholastic Administrator™, Instructor New Teacher™, Scholastic Early Childhood TodayToday™™andCoach and CoachandAthletic DirectorDirector™™, which are directed to teachers and education professionals and are distributed during the academic year. Total circulation for these magazines was approximately 500,000 in fiscal 2004. Subscriptions for these magazines are solicited primarily by direct mail. mail, with total circulation of approximately 450,000 in fiscal 2006.Scholastic Parent and Child®magazine, which is directed at parents and distributed through schools and childcare programs, had circulation of approximately 1.2 million in fiscal 2004.2006. These magazines carry paid advertising, advertising for Scholastic’s otherScholastic products and paid advertising for clients that sponsor customized programs.
Other
Also included in this segment are: Scholastic In-School Marketing, which develops sponsored educational materials and supplementary classroom programs in partnership with corporations, government agencies and nonprofit organizations; Back to Basics Toys®, acquired in August 2003, a direct-to-home catalog business specializing in children’s toys (“Back to Basics”);toys; and Quality Education Data, which develops and
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markets databases and provides research and analysis focused on teachers, schools and education.
INTERNATIONALN T E R N A T I O N A L
(16.6%18.0% of fiscal 20042006 revenues)
General
TheInternationalsegment includes the publication and distribution of products and services outside the United States by the Company’s international operations, and its export and foreign rights businesses.
Scholastic has long-established operations in Canada, the United Kingdom, Australia, and New Zealand and Southeast Asia and also has newer operations in Argentina, Hong Kong,China, India, Ireland and Mexico. With the acquisition of Grolier, the Company expanded into the direct-to-home continuity business primarily serving children age five and underScholastic’s operations in Canada, the United Kingdom and Australia and also added the publication and distribution of reference products and services outside the United States, principally in Southeast Asia.
Scholastic’s operations in Canada, the United Kingdom, Australia and New Zealand generally mirror its United States business model. Each of these international operations has original trade and educational publishing programs, distributes children’s books, software and other materials through school-based book clubs, school-based book fairs, and trade channels and direct-to-home continuity programs, distributes magazines and offers on-line services. Each of these operations has also established its own export and foreign rights licensing programs and is a licensee of book tie-inspublishing licensee for major media properties. Original books published by each of these operations have received awards of excellence in children’s literature. In Southeast Asia, the Company primarily publishes and distributes reference products and provides services under the Grolier name.
Canada
Scholastic Canada, founded in 1957, is a leading publisher and distributor of English and French language children’s books, is the largest school-based book club and school-based book fair operator in Canada and is one of the leading suppliers of original
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or licensed children’s books to the Canadian trade market. Since 1965, Scholastic Canada has produced quality Canadian-authored books and educational materials. In 2006, Scholastic Canada launched a new Canadian-authored reading program,Literacy Place™ for the Early Years, for grades K to 3. Grolier Canada is a leading operator of direct-to-home continuity programs in Canada.
United Kingdom
Scholastic UK, founded in 1964, is the largest school-based book club and school-based book fair operator and is a leading children’s publisher in the United Kingdom, where its trade books appear frequently on children’s bestseller lists.Kingdom. Scholastic UK also publishes magazines for teachers and supplemental educational materials, including professional books. Grolier UK is a leading operator of direct-to-home continuity programs in the United Kingdom.
In fiscal 2003, the Company entered into a joint venture with The Book People Ltd. (together with its affiliates, “The Book People”), a direct marketer of books in the United Kingdom, to distribute books to the home under the Red House® name and through schools under the School Link™ name.
Australia
Scholastic Australia, founded in 1968, is the leading publisher and distributor of children’s educational materials in Australia and has the largest school-based book club and book fair operation in the country, reaching approximately 90% of the country’s primary schools. Scholastic Australia publishes quality children’s books supplying the Australian trade market. Scholastic Australia also operates direct-to-home continuity programs.
New Zealand
Scholastic New Zealand, founded in 1964, 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, Scholastic New Zealand reaches approximately 90% of the country’s primary schools.
Asia
Asia
The Company’s Asia operations primarily sell English language reference materials and local language productproducts through a network of over 2,0001,500 independent door-to-door sales representatives in India, Indonesia, Malaysia, the Philippines,
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Singapore, Taiwan and Thailand. In India, the Company also operates school-based book clubs and book fairs and publishes original titles in the English and Hindi languages. In the Philippines, the Company also operates school-based book fairs, and in Malaysia, the Company operates school-based book clubs and continuity programs.
Latin America
In Latin America, the Company has operations in Mexico, Argentina and Puerto Rico. These businesses principally distribute books and educational material published by Scholastic, as well as merchandise from other publishers, through school-based book clubs and book fairs. In Puerto Rico, Scholastic also distributes Spanish language reference materials thoughthrough a network of independent door-to-door sales representatives.representatives and sells educational books and software to public and private schools.
Foreign Rights and Export
The Company licenses the foreign-language rights to selected Scholastic titles for translation in over 40 languages to other publishing companies around the world in over 37 languages.world. The Company’s export business sells Scholasticeducational materials, software and children’s books to schools, libraries, bookstores and productsother book distributors in regions of the worldover 140 countries that are not otherwise directly serviced by Scholastic subsidiaries. The Company partners with governments and non-governmental agencies to create and distribute books to public schools in developing countries.
MMA N U F A C T U R I N G A N D ANUFACTURING AND DISTRIBUTIONI S T R I B U T I O N
The Company’s books, magazines, software and other materials and products are manufactured by third parties under contracts entered into through arm’s-lengtharms-length negotiations or competitive bidding. As appropriate, the Company enters into multi-year agreements that guarantee specified volume in exchange for favorable pricing terms. Paper is purchased from third party sources. The Company does not anticipate any difficulty in continuing to satisfy its manufacturing and paper requirements.
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In the United States, the Company mainly processes and fulfills school-based book club, trade, curriculum publishing, reference and non-fiction products and export orders from its primary warehouse and distribution facility in Jefferson City, Missouri. Magazine orders are processed at the Jefferson City facility and are shipped directly from printers. In fiscal 2003, the Company acquired aThe Company’s distribution facility in Maumelle, Arkansas (the “Maumelle Facility”), which serves as the Company’s primary packaging and fulfillment center for its continuity programs. In connection with its trade business, the Company generally outsources certain services, including invoicing, billing, returns processing and collection services, and also ships product directly from printers to customers. School-based book fair orders are fulfilled through a network of warehouses across the country. The Company’s international school-based book club, school-based book fair, trade, continuity businesses and educational operations use similar distribution systems.
SE A S O N A L I T YEASONALITY
The Company’s school-based book clubs, school-based book fairs and most of its magazines operate on a school-year basis. Therefore, the Company’s business is highly seasonal. As a consequence,result, the Company’s revenues in the first and third quarters of the fiscal year generally are lower than its revenues in the other two fiscal quarters. Typically, school-based book club and book fair revenues are greatest in the second quarter of the fiscal year, while revenues from the sale of instructional materials are the highest in the first quarter. The Company experiences a substantial loss from operations in the first quarter.
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COMPETITIONand third quarters of each fiscal year.
CO M P E T I T I O N
The markets for children’s educational and entertainment materials are highly competitive. Competition is based on the quality and range of materials made available, price, promotion, customer service and distribution channels. Competitors include numerous other book, textbook, library, reference material and supplementary text publishers, distributors and other resellers (including over the Internet)internet) of children’s books and other educational materials, national publishers of classroom and professional magazines with substantial circulation, numerous producers of television, video and film programming (many of which are substantially larger than the Company), television networks and cable networks, publishers of computer software and distributors of products and services on the Internet.internet. In the United States, competitors also include regional and local school-based book fair operators, includingother fundraising activities in schools, and bookstores. 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.
COPYRIGHT AND TRADEMARKS
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C O P Y R I G H T A N D T R A D E M A R K S
SCHOLASTIC is a registered trademark in the United States and in a number of countries where the Company conducts business. Scholastic Inc., the Corporation’s principal operating subsidiary in the United States, has registered and/or has pending applications to register in the United States its trademarks for the names of each of its domestic book clubs, the titles of its magazines and the names of all its core curriculum programs.
The Corporation’s international subsidiaries have also registered trademarks in the name of Scholastic Inc. for the names of their respective book clubs, magazines and magazinescurriculum programs in their respective countries. Although individual book titles are not subject to trademark protection, Scholastic Inc. has registered and/or has pending applications to register trademarks in the United States and in a number of countries for the names of certain series of books and consumer products, such as The Magic School Busand Clifford The Big Red Dog. GROLIER is a registered trademark in the United States and a number of countries where the Company conducts business. All of the Company’s publications, including books, magazines and software, are subject to copyright protection. Where applicable, the Company consistently files copyright registrations for its magazines, books and softwareproducts in the name of Scholastic Inc. or one of its subsidiaries. Copyrights and trademarks are vigorously defended by the Company, and as necessary, outside counsel may be retained to assist in such protection.
EM P L O Y E E SMPLOYEES
At May 31, 2004,2006, the Company employed approximately 7,2007,100 people in full-time jobs and 1,000900 people in part-time jobs in the United States and approximately 2,6002,400 additional people internationally. The number of part-time employees fluctuates during the year because significant portions of the Company’s business are closely correlated with the school year. On May 28, 2003, the Company announced a reduction in its global work force of approximately 400 positions, the majority of which took effect in the first quarter of fiscal 2004. The Company believes that relations with its employees are good.
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Executive Officers
Each of the following individuals serves as an executive officer of Scholastic until the first meeting of the Corporation’s Board of Directors following the Annual Meeting of Stockholders of Scholastic Corporation in September 20042006 and until their successors have been elected or appointed and qualified or until such officer’s earlier resignation or removal.
| Employed by | |||
| Name | Registrant Since | Position(s) for Past Five Years | |
| Richard Robinson | 1962 | Chairman of the Board (since 1982), President (since | |
| 1974) and Chief Executive Officer (since 1975). | |||
| Mary A. Winston | 2004 | Executive Vice President and Chief Financial Officer | |
| (since 2004). Prior to joining the Company, Vice President | |||
| and Controller (2003–2004) and Vice President and | |||
| Treasurer (2002–2003) of Visteon Corporation, a global | |||
| automotive supplier; and between 1995 and 2002, various | |||
| senior financial management roles at Pfizer and Warner- | |||
| Lambert, which merged in June 2000, including Vice | |||
| President, Global Financial Operations for the | |||
| pharmaceutical business (2000–2002). | |||
| Deborah A. Forte | 1983 | Executive Vice President (since 1996), President, | |
| Scholastic Media (since 2006) and Scholastic | |||
| Entertainment Inc. (since 2001) and Division Head, | |||
| Scholastic Entertainment Inc. (1995-2001). | |||
| Lisa Holton | 2005 | Executive Vice President and President, Book Fairs and | |
| Trade (since 2005). Prior to joining the Company, Senior | |||
| Vice President, Publisher, Global Disney Children’s Books | |||
| (2001-2005), and Vice President and Group Publisher of | |||
| Disney Children’s Books (1999-2001). | |||
| Margery W. Mayer | 1990 | Executive Vice President (since 1990), President, | |
| Scholastic Education (since 2002) and Executive Vice | |||
| President, Learning Ventures (1998-2002). | |||
| Judith A. Newman | 1993 | Executive Vice President and President, Book Clubs and | |
| Scholastic At Home (since 2005); Senior Vice President | |||
| and President, Book Clubs and Scholastic At Home (2004- | |||
| 2005); and Senior Vice President, Book Clubs (1997- | |||
| 2004). |
Employed by Name Age Registrant Since Position(s) for Past Five Years Richard Robinson 67 1962 Chairman of the Board (since 1982), President (since 1974) and Chief Executive Officer (since 1975). Mary A. Winston 42 2004 Executive Vice President and Chief Financial
Officer (since 2004). Prior to joining the Company, Vice President and Controller (2003–2004) and Vice President and Treasurer (2002–2003) of Visteon Corporation, a global automotive supplier; and between 1995 and 2002, various senior financial management roles at Pfizer and Warner-Lambert, which merged in June 2000, including Vice President, Global Financial Operations for the pharmaceutical business (2000–2002) and Vice President, Finance and Administration (1998–2000). Deborah A. Forte 50 1983 Executive Vice President (since 1996), President, Scholastic Entertainment Inc. (since 2001), and Division Head, Scholastic Entertainment Inc. (1995–2001). Donna M. Iucolano 40 2000 Executive Vice President (since 2000), President, e-Scholastic (since 2003), President, Scholastic Internet Group (2001–2003), Executive Vice President, Scholastic Internet Group (2000–2001); and prior to joining the Company, positions including Senior Vice President (2000) and Vice President (1998–2000) at
1-800-FLOWERS.COM (1994–2000), where she served as the chief e-business strategist. Linda B. Keene 52 2004 Executive Vice President, Marketing (since 2004); and prior to joining the Company, a director of Scholastic Corporation (1999–2004), principal of Waterford Marketing Group, an independent consulting agency for marketing and organizational issues (2001–2004), and Vice President of Market Development for American Express Financial Advisors (1994–2001). Barbara A. Marcus 53 1983 Executive Vice President (since 1991), President, Children’s Book Publishing and Distribution (since 1999) and Executive Vice President, Children’s Book Publishing and Distribution (1991–1999).
| Employed by | |||
| Name | Registrant Since | Position(s) for Past Five Years | |
| Seth Radwell | 2005 | Executive Vice President and President, e-Scholastic | |
| (since 2005). Prior to joining the Company, President, | |||
| Marketing & Editorial Group, Bookspan (2002-2005); and | |||
| Chief Executive Officer and President, Doubleday | |||
| Interactive (1999-2001). | |||
| Hugh Roome | 1991 | Executive Vice President (since 1996), President, | |
| International Group (since 2001) and Executive Vice | |||
| President, International (2000-2001). | |||
| Ernest B. Fleishman | 1989 | Senior Vice President, Education and Corporate Relations | |
| (since 1989). | |||
| Beth Ford | 2000 | Senior Vice President, Global Operations and Information | |
| Technology (since 2002) and Senior Vice President, Global | |||
| Operations (2000-2002). | |||
| Karen A. Maloney | 1997 | Senior Vice President, Corporate Finance and Chief | |
| Accounting Officer (since 2005), and Vice President and | |||
| Corporate Controller (1998-2004). | |||
| Heather J. Myers | 2003 | Senior Vice President, Strategic Planning & Business | |
| Development (since 2003). Prior to joining the Company, | |||
| Independent Media & Entertainment Consultant | |||
| (2002–2003); and from 1995–2001, various positions at | |||
| Vivendi Universal (formerly Seagram Company Ltd.), | |||
| including Executive Vice President/ General Manager, | |||
| Universal Global e, Universal Music Group (1999–2001). | |||
| Peter Watts | 2005 | Senior Vice President, Corporate Human Resources and | |
| Employee Services (since 2005). Prior to joining the | |||
| Company, an independent human resources consultant | |||
| (2003-2005); and Vice President, Human Resources, | |||
| Novartis Pharmaceuticals Corporation (2000-2002). |
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Employed by Name Age Registrant Since Position(s) for Past Five Years Margery W. Mayer 52 1990 Executive Vice President (since 1990), President, Scholastic Education (since 2002) and Executive Vice President, Learning Ventures (1998–2002). Hugh R. Roome 52 1991 Executive Vice President (since 1996), President, International Group (since 2001), Executive Vice President, International (2000–2001) and Executive Vice President, Magazine Group (1996–2000). Richard M. Spaulding 67 1960 Director (since 1974) and Executive Vice President, Marketing (since 1974). Judith A. Corman 65 1999 Senior Vice President, Corporate Communications and Media Relations (since 1999). Charles B. Deull 44 1995 Senior Vice President (since 1995), General Counsel (since 1999), Senior Vice President, Legal and Business Affairs (1995–1999) and Corporate Secretary (since 1996). Ernest B. Fleishman 67 1989 Senior Vice President, Education and Corporate Relations (since 1989). Beth Ford 40 2000 Senior Vice President, Global Operations and Information Technology (since 2002), Senior Vice President, Global Operations (2000–2002); and prior to joining the Company, Director, Supply Chain at Pepsi Bottling Group/Pepsico (1997–2000). Larry V. Holland 45 1994 Senior Vice President, Corporate Human Resources and Employee Services (since 1997). Heather J. Myers 39 2003 Senior Vice President, Strategic Planning & Business Development (since 2003). Prior to joining the Company, Independent Media & Entertainment Consultant (2002-2003); and from 1995-2001, various positions at Vivendi Universal (formerly Seagram Company Ltd.), including Executive Vice President/General Manager, Universal Global e, Universal Music Group (1999-2001); Vice President, Acquisition Integration of PolyGram, Universal Music Group (1998-1999); and Senior Director, Corporate Development, Universal Studios, Inc. (1997-1998). Judith A. Newman 46 1993 Senior Vice President and President, Book Clubs and Scholastic At Home (since 2004), Senior Vice President, Book Clubs (1997–2004) and Vice President, Marketing (1993–1997). Karen A. Maloney 47 1997 Vice President and Corporate Controller (since 1998).
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Available Information
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, www.scholastic.com, by clicking on the “SEC Filings” tab 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 “Calendar and Presentations” portion of its website the dates of its upcoming financial press releases, telephonic investor calls and investor presentations 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 one year 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, D.C. The public may obtain information on the operation of the Public Reference Room 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 FactorsSet 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 trends and develop new products or 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 changes in customer preferences. There are substantial uncertainties associated with the Company’s efforts to develop successful educational, trade publishing, entertainment and software products and services for its customers, as well as to adapt its print materials to new technology, including the internet. 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 has experienced historically.
Our financial results would suffer if we fail to meet successfully 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 part of the Company’s revenues. The Company has recently determined to discontinue two of its smaller school-based book clubs,TrumpetandTroll/Carnival, which is expected to result in lower revenues in the near term, and is changing its promotional strategy with respect to its other school-based book clubs for the school year starting in Fall 2006. The Company is subject to the risk that it will not successfully execute its new promotional strategy for its school-based books clubs or otherwise meet market needs in these businesses, which would have an adverse effect on the Company’s financial results.
Our failure to successfully execute our recent change in business plan for our continuity business may adversely affect our financial results.
The Company’s direct-to-home continuity business was affected by the implementation of the National “Do-Not-Call Registry” legislation in 2003, which has adversely affected the business and necessitated changes in marketing strategies and the development of new continuity products. In response, the Company adopted a significant change to the business plan for its direct-to-home continuity business, focusing on its more productive customers, which has, as anticipated,
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resulted in a decline in continuity revenues from historical levels. The Company is subject to the risk that it will not successfully execute this plan and that the continuity business may not return to its historical levels of profitability.
If we are unsuccessful in achieving significant cost savings from the execution of our cost savings initiative, our profitability would be adversely affected.
In fiscal 2006, the Company announced that it was implementing a significant cost savings initiative, affecting all areas of the Company. The Company is subject to the risk that it will not meet successfully the announced goals of this cost savings initiative and that, even if successful, the achievement of the anticipated savings may not be sufficient to assist the Company in meeting its financial goals, adversely affecting profitability.
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.
If we fail to adapt to new purchasing patterns or requirements, especially in our educational publishing businesses, our business and financial results could be adversely affected.
The Company’s business is affected significantly by changes in purchasing patterns or trends in, as well as the underlying strength of, the educational, trade, entertainment and software markets. In particular, the Company’s educational publishing businesses may be adversely affected by changes in state educational funding as a result of new legislation or regulatory actions, both at the federal and state level, as well as changes in the procurement process, to which the Company may be unable to adapt successfully.
The competitive pressures we face in certain of our businesses could adversely affect our financial performance and growth prospects.
The Company is subject to significant competition, including from other educational and trade publishers and media, entertainment and internet companies, 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.
If we are unsuccessful in implementing our corporate strategy, including our cost savings initiative, we may not be able to maintain our historical growth.
Continuance of the Company’s historical growth rate depends upon a number of factors, including the ability of the Company to implement successfully its strategies for the respective business units, the introduction and acceptance of new products and services, expansion in the global markets that the Company serves, and the successful completion of its recently announced cost savings initiative. Difficulties, delays, or failures experienced in connection with any of these factors could materially affect the future growth of the Company.
Increases in certain operating costs and expenses, which are beyond our control and can affect significantly our profitability, could adversely affect our operating performance.
The Company’s major expense categories include employee compensation and printing, paper and distribution (including postage, shipping, and fuel) costs. The Company offers its employees competitive salaries and benefit packages in order to attract and retain the quality of employees required to grow and expand its businesses. Compensation costs are influenced by general economic factors, including
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those affecting costs of health insurance, post-retirement benefits, and any trends specific to the employee skill sets the Company requires. In addition, the Company’s reported earnings would be adversely affected by increases in pension costs due to poor investment returns and/or changes in pension regulations. Paper prices fluctuate based on worldwide demand and supply for paper, in general, and for the specific types of paper used by the Company. If there is a significant disruption in the supply of paper or increase in these costs, which would generally be beyond the control of the Company, or if the Company’s strategies to try to manage these issues are ineffective, the Company’s results of operations could be adversely affected.
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 intellectual property and proprietary rights in some jurisdictions and markets, 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.
Because we 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 Corporation 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. Accordingly, the Company could be adversely affected by changes in currency exchange rates, as well as by the political and economic risks attendant to conducting business in foreign countries. These risks include the potential of political instability in developing nations where the Company is conducting business.
Certain of our activities are subject to weather risks, which could disrupt our operations or otherwise adversely affect our financial performance.
The Company conducts many of its businesses and maintains warehouse and office facilities in locations that are at risk of being negatively affected by severe weather events, such as hurricanes, floods, or snowstorms. For example, in the fall of 2005, a series of hurricanes had a severe impact on the Gulf Coast area of the United States, closing several thousand schools, displacing several hundred thousand students and their families, and, in turn, affecting the schools that took in those children. This impacted the Company’s school-based book clubs, school-based book fairs, continuities, and education businesses. Accordingly, the Company could be adversely affected by any future significant weather event.
Control of the Company resides in our Chairman, 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 in respect of 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 Company’s Chairman, 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 transactions.
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Forward-Looking Statements:
This Annual Report on Form 10-K contains forward-looking statements. 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, plans, strategies, or goals, revenues, operating margins, working capital, liquidity, capital needs, interest costs and income, are subject to certain 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 Report and other risks and factors identified from time to time in the Company’s filings with the SEC. These factors should not be construed as exhaustive or as any admission regarding the adequacy of disclosures made by the Company prior to the date hereof. 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 600,000 square feet of space. The Company also owns or leases approximately 1.6 million square feet of office and warehouse space for its primary warehouse and distribution facility located in the Jefferson City, Missouri area. The Company’s distribution facility in Maumelle, Arkansas, consisting of a 500,000 square foot main floor and a 246,000 square foot mezzanine, serves as the Company’s primary packaging and fulfillment center for its continuity programs. In addition, the Company owns or leases approximately 2.72.9 million square feet of office and warehouse space in over 80 facilities in the United States, principally for Scholastic Book Fairs.
In fiscal 2003, the Company acquired the Maumelle Facility, consisting of a 500,000 square foot main floor and a 246,000 square foot mezzanine. This facility serves as the Company’s primary packaging and fulfillment center for its continuity programs.
Additionally, the Company owns or leases approximately 1.21.7 million square feet of office and warehouse space in over 100 facilities in Canada, the United Kingdom, Australia, New Zealand, Southeast 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 NoteNotes 1 and 4 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 results of these proceedings are not expected to have a material adverse effect on the Company’s consolidated financial position or results of operations.
Item 4 | Submission of Matters to a Vote of Security Holders
During the fourth quarter of the fiscal year covered by this report, no matter was submitted to the vote of security holders, through the solicitation of proxies or otherwise.
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Part IIItem 5 |Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 5 | Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Scholastic Corporation’s common stock,Common Stock, par value $0.01 per share (the “Common Stock”), is traded on the NASDAQ Global Select Market (formerly the NASDAQ National Market SystemMarket) under the symbol SCHL. Scholastic Corporation’s Class A Stock, par value $0.01 per share (the “Class A Stock”), is convertible into Common Stock on a share-for-share basis. There is no public trading market for the Class A Stock. The table below sets forth, for the periods indicated, the quarterly high and low selling prices on the NASDAQ National Market System for the Common Stock.Stock as reported by NASDAQ.
| For fiscal years ended May 31, | |||||||||||
| High | Low | High | Low | ||||||||
| First Quarter | $ | 39.74 | $ | 35.20 | $ | 30.38 | $ | 25.90 | |||
| Second Quarter | 38.00 | 31.86 | 32.98 | 28.34 | |||||||
| Third Quarter | 34.66 | 27.33 | 37.75 | 31.71 | |||||||
| Fourth Quarter | 31.25 | 25.35 | 40.04 | 33.08 | |||||||
For fiscal years ended May 31, 20042003 HighLowHighLowFirst Quarter $ 32.25 $ 26.99 $ 46.45 $ 33.62 Second Quarter 35.12 28.38 48.89 40.83 Third Quarter 35.39 31.55 45.02 23.01 Fourth Quarter 32.42 26.65 32.68 23.00
Scholastic Corporation has not paid any cash dividends since its initial public offering in February 1992 and has no current plans to pay any dividends on the Class A Stock or the Common Stock. In addition, certain of the Company’s credit facilities restrict the payment of dividends. See Note 3 of Notes to Consolidated Financial Statements in Item 8, “Consolidated Financial Statements and Supplementary Data,” for further information.
The number of holders of record of Class A Stock and Common Stock as of July 26, 20042006 were 3 and approximately 13,100,11,100, respectively.
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Item 6 | Selected Financial Data
(Amounts in millions, except per share data) For fiscal years ended May 31, 2004 2003 2002 2001 2000 Statement of Income Data: Total revenues $ 2,233.8 $ 1,958.3 $ 1,917.0 $ 1,962.3 $ 1,402.5 Cost of goods sold 1,080.0 882.1 852.1 899.7 692.8 Cost of goods sold – Continuity charges (1) 6.8 — — — — Cost of goods sold – Special Literacy Place and
other charges (2) — — — 72.9 — Selling, general and administrative expenses 869.7 826.3 771.7 773.1 557.6 Selling, general and administrative expenses –
Continuity charges (1) 15.2 — — — — Bad debt expense 88.3 72.3 68.7 75.5 20.5 Bad debt expense – Continuity charges (1) 2.0 — — — — Other operating costs: Depreciation and amortization 53.5 46.1 36.6 42.4 24.1 Special severance charges (3) 3.3 10.9 — — — Litigation and other charges (4) — 1.9 1.2 — 8.5 Operating income 115.0 118.7 186.7 98.7 99.0 Other income (expense) (5) 8.0 2.9 (2.0) — — Interest expense, net 32.5 31.5 31.4 41.6 18.6 Earnings before Cumulative effect of accounting change 58.4 58.6 98.7 36.3 51.4 Cumulative effect of accounting change
(net of income taxes) (6) — — (5.2) — — Net income 58.4 58.6 93.5 36.3 51.4 Earnings per share before Cumulative effect
of accounting change: Basic $ 1.48 $ 1.50 $ 2.69 $ 1.05 $ 1.54 Diluted $ 1.46 $ 1.46 $ 2.51 $ 1.01 $ 1.48 Earnings per share: Basic $ 1.48 $ 1.50 $ 2.55 $ 1.05 $ 1.54 Diluted $ 1.46 $ 1.46 $ 2.38 $ 1.01 $ 1.48 Weighted average shares outstanding – basic 39.4 39.1 36.7 34.7 33.4 Weighted average shares outstanding – diluted 40.1 40.1 40.1 36.1 37.1 Balance Sheet Data: Working capital $ 485.3 $ 390.5 $ 454.6 $ 382.3 $ 253.9 Cash and cash equivalents 17.8 58.6 10.7 13.8 9.0 Total assets 1,755.8 1,801.0 1,629.6 1,501.8 983.2 Long-term debt 492.5 482.2 525.8 585.3 241.1 Total debt 516.6 635.9 549.3 608.6 624.3 Total stockholders’ equity 856.0 772.6 718.9 493.7 430.0 Certain prior year amounts have been reclassified to conform with the present year presentation, and share amounts have been adjusted to reflect a 100% stock dividend in the form of a 2-for-1 stock split on the Class A Stock and Common Stock paid on January 16, 2001.
| Item 6 | Selected Financial Data | ||||||||||||||||||||||
| (Amounts in millions, except per share data) | ||||||||||||||||||||||
| For fiscal years ended May 31, | ||||||||||||||||||||||
| 2006 | 2005 | 2004 | 2003 | 2002 | ||||||||||||||||||
| Statement of Income Data: | ||||||||||||||||||||||
| Total revenues | $ | 2,283.8 | $ | 2,079.9 | $ | 2,233.8 | $ | 1,958.3 | $ | 1,917.0 | ||||||||||||
| Cost of goods sold(1)(2) | 1,103.1 | 979.0 | 1,086.8 | 882.1 | 852.1 | |||||||||||||||||
| Selling, general and administrative expenses(1) | 916.5 | 840.7 | 870.1 | 813.1 | 765.1 | |||||||||||||||||
| Bad debt expense(1)(3) | 59.1 | 62.2 | 90.3 | 72.3 | 68.7 | |||||||||||||||||
| Depreciation and amortization | 65.8 | 63.1 | 62.1 | 52.1 | 41.4 | |||||||||||||||||
| Operating income(4) | 139.3 | 134.9 | 121.2 | 125.9 | 188.5 | |||||||||||||||||
| Other income (expense)(5) | — | — | 8.0 | 2.9 | (2.0 | ) | ||||||||||||||||
| Interest expense, net | 31.7 | 35.2 | 39.6 | 38.3 | 38.0 | |||||||||||||||||
| Net income(6) | 68.6 | 64.3 | 57.8 | 58.8 | 90.5 | |||||||||||||||||
| Earnings per share: | ||||||||||||||||||||||
| Basic | $ | 1.65 | $ | 1.61 | $ | 1.47 | $ | 1.50 | $ | 2.46 | ||||||||||||
| Diluted | $ | 1.63 | $ | 1.58 | $ | 1.44 | $ | 1.46 | $ | 2.31 | ||||||||||||
| Weighted average shares outstanding – basic | 41.6 | 40.0 | 39.4 | 39.1 | 36.7 | |||||||||||||||||
| Weighted average shares outstanding – diluted | 42.2 | 40.8 | 40.1 | 40.1 | 40.1 | |||||||||||||||||
| Balance Sheet Data: | ||||||||||||||||||||||
| Working capital | $ | 389.9 | $ | 564.5 | $ | 467.4 | $ | 381.9 | $ | 449.6 | ||||||||||||
| Cash and cash equivalents | 205.3 | 110.6 | 17.8 | 58.6 | 10.7 | |||||||||||||||||
| Total assets | 2,052.2 | 1,931.4 | 1,831.8 | 1,863.0 | 1,694.9 | |||||||||||||||||
| Long-term debt (excluding capital leases) | 173.2 | 476.5 | 492.5 | 482.2 | 525.8 | |||||||||||||||||
| Total debt | 502.4 | 501.4 | 516.6 | 635.9 | 549.3 | |||||||||||||||||
| Long-term capital lease obligations | 61.4 | 63.4 | 63.8 | 58.2 | 56.8 | |||||||||||||||||
| Total capital lease obligations | 68.9 | 74.4 | 74.0 | 66.8 | 61.7 | |||||||||||||||||
| Total stockholders’ equity | 1,049.3 | 937.1 | 845.4 | 762.6 | 708.8 | |||||||||||||||||
| Certain prior year amounts have been reclassified to conform with the present year presentation. | ||||||||||||||||||||||
| (1) | In fiscal 2004, the Company recorded pre-tax charges of $25.4, or $0.41 per diluted share, in connection with | expense of $2.0. In fiscal 2005, the Company recorded additional pre-tax charges of $3.8, or $0.06 per diluted share, primarily related to severance costs due to the review of its continuity business, which have been recorded as a component of Selling, general and administrative expenses. | ||
| (2) | In fiscal | certain print reference set assets. | ||
| (3) | In fiscal 2006, the Company recorded pre-tax bad debt expense of $2.9, or $0.04 per diluted share, associated with the bankruptcy of a customer. | |||
| (4) | In fiscal 2004 and fiscal 2003, the Company recorded pre-tax | |||
| (5) | In fiscal 2004, the Company recorded a pre-tax net gain of $8.0, or $0.13 per diluted share, in connection with the early termination of a sublease by one of its tenants. In fiscal 2003, the Company sold a portion of an equity investment, resulting in a pre-tax gain of $2.9, or $0.05 per diluted share. In fiscal 2002, the Company wrote off an equity investment, resulting in a pre-tax loss of $2.0, or $0.03 per diluted share. | |||
| (6) | In fiscal 2002, the Company adopted Statement of Position No. 00-2, “Accounting by Producers and Distributors of Films,” which resulted in an after-tax charge of $5.2, or $0.13 per diluted share, recorded as a Cumulative effect of accounting change. | |||
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| Item 7 | Management’s Discussion and Analysis of Financial Condition and Results of Operations |
General
Scholastic is a global children’s publishing and media company. The Company distributes its products and services through a variety of channels, including school-based book clubs, school-based book fairs, school-based and direct-to-home continuity programs, retail stores, schools, libraries and television networks. The Company categorizes its businesses into four operating segments:Children’s Book Publishing and Distribution; Educational Publishing; Media, Licensing and Advertising (which(which collectively represent the Company’s domestic operations); andInternational. This classification reflects the nature of products and services consistent with the method by which the Company’s chief operating decision-maker assesses operating performance and allocates resources.
Certain prior year amounts have been reclassified to conform to the current year presentation. 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
Fiscal 20042006 revenues increased 14.1%approximately 10% from fiscal 2005 to over $2approximately $2.3 billion, led by higher revenues in the Company’sChildren’s Book Publishing and Distributionsegment, primarily due to the release ofHarry Potter and the Half-Blood Prince,the sixth book in the planned seven book series, on July 16, 2005. Revenues also increased in theEducational Publishingsegment, led by sales of educational technology products, including the Company’sREAD 180reading intervention program, and in theInternationalandMedia, Licensing and Advertisingsegments.
Net income increased 6.7% to $68.6 million in fiscal 2006, due to improved results in theChildren’s Book Publishing and Distributionsegment, as a result of revenue growthhigherHarry Potterrevenues. This improvement was partially offset by lower profits in each of the Company’s fourother operating segments. This revenue growth was principally attributed to growth in the Children’s Book Publishing and Distribution segment led by the record trade sales of Harry Potter and the Order of the Phoenix in the first quarter of the fiscal year, combined with growth in school-based book clubs and school-based book fairs. Revenue growth also benefited from increases in the Educational Publishing segment, led by strong sales of classroom libraries and Read 180, and higher International revenues, including the effect of currency changes.
Operating income declined by 3.1%, to $115.0 million, principally because strong operating profit improvements in Educational Publishing, International and the Company’s school-based book clubs and trade businesses included in the Children’s Book Publishing and Distribution segment were more than offset by profit deterioration in its continuity business. In response to weakness in its continuity business, including the impact of the National Do Not Call Registry legislation,fiscal 2007, the Company strategically reviewed the business, which resulted in charges of approximately $25 million.
For fiscal 2005, the Company’s goals include higher profitsexpects to improve overall profitability on slightly lower revenues. These goals areThis goal is based on: (1) revenue and profit growth in the school-based book clubs, school-based book fairsfair, continuities and non-Harrynon-Harry Potter front list trade components ofpublishing businesses within theChildren’s Book Publishing and Distributionsegment, partially offsetting the revenue and profit impact from lowerHarry Potter revenuesales in a year with no scheduled new release, of a new titleand lower revenues and higher profits in the series;school-based book clubs, based on the Company’s decision to eliminate its Trumpet and Troll/Carnival book clubs; (2) lower revenue and higher profit from the reorganized continuity business, as the Company strengthens its relationships with its most productive customers through product and service improvements; (3) growth in revenue and operating profit in its theEducational Publishingsegment, builtbased on ongoing strengthlast year’s investment in reading improvement materials, including technology based productssales and classroom libraries; (4)support, particularly from educational technology; (3) continued revenue growth in theInternational segment;segment with improved profitability; and (5) achieving operating improvements and efficiencies, with a continued focus on generating free cash flow.(4) ongoing implementation of the Company’s previously announced cost savings plan to reduce overhead spending.
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Critical Accounting Policies and Estimates
General:
The Company’s discussion and analysis of its financial condition and results of operations is based upon the Company’sits 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,
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which affect the amounts reported in the consolidated financial statements and accompanying notes. The Company bases its estimates on historical experience, current business factors, 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-goingongoing basis, the Company evaluates the adequacy of its reserves and the estimates used in calculations, including, but not limited to: collectability of accounts receivable and installment receivables; sales returns; amortization periods; pension and other post-retirement obligations; and recoverability of inventories, deferred promotion costs, deferred income taxes and tax reserves, prepublication costs, royalty advances, goodwill and other intangibles.
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:
School-Based Book Clubs– Revenue from school-based book clubs is recognized upon shipment of the products.
School-Based Book Fairs– Revenue from school-based book fairs, which are generally a week in duration, is recognized ratably as each book fair occurs.
Continuity Programs– The Company operates continuity programs whereby customers generally place a singlean order andto receive multiple shipments of children’s books and other products over a period of time. Revenue from continuity programs is recognized at the time of shipment or, in applicable cases, upon customer acceptance. Reserves for estimated returns are established at the time of sale and recorded as a reduction to revenue. Actual returns are charged to the reserve as received. The calculation of the reserve for estimated returns is based on historical return rates and sales patterns. Actual returns could differ from the Company’s estimate. A one percentage point change in the estimated reserve for returns rate by product and media would resulthave resulted in an increase or decrease in operating income for the year ended May 31, 2006 of approximately $0.5$0.2 million.
Trade– Revenue from the sale of children’s books for distribution in the retail channel is primarily recognized when title transfers to the customer, which generally is recognized at the time of shipment, which generallyor when the product is when title transferson sale and available to the customer.public. A reserve for estimated returns is established at the time of sale and recorded as a reduction to revenue. Actual returns are charged to the reserve as received. The calculation of the reserve for estimated returns is based on historical return rates and sales patterns. Actual returns could differ from the Company’s estimate. A one percentage point change in the estimated reserve for returns rate would resulthave resulted in an increase or decrease in operating income for the year ended May 31, 2006 of approximately $1.8$1.5 million.
Educational Publishing– For shipments to schools, revenue is recognized on passage of title, which generally occurs upon receipt by the customer. Shipments to depositories are on consignment. Revenue is recognized based on actual shipments from the depositories to the schools. For certain software-based products, the Company offers new customers installation and training. In such cases, revenue is recognized when installation and training are complete.
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Toy Catalog– Revenue from the sale of children’s toys to the home through catalogs is recognized at the time of shipment, which is generally when title transfers to the customer.customer, which is generally at the time of shipment. A reserve for estimated returns is established at the time of sale and recorded as a reduction to revenue. Actual returns are charged to the reserve as received. The calculation of the reserve for estimated returns is based on historical return rates and sales patterns. Actual returns could differ from the Company’s estimate.
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
16
available for showing or exploitation. Licensing revenue is recorded in accordance with royalty agreements at the time the licensed materials are available to the licensee and collections are reasonably assured.
Magazines– Revenue is deferred and recognized ratably over the subscription period, as the magazines are delivered.
Magazine Advertising– Revenue is recognized when the magazine is on sale and available to the subscribers.
Scholastic In-School Marketing– Revenue is recognized when the Company has satisfied its obligations under the program and the customer has acknowledged acceptance of the product or service.
For the fiscal years ended May 31, 2004, 20032006, 2005 and 2002,2004, no significant changes have been made to the underlying assumptions related to the revenue recognition policy or the methodology applied.
Accounts receivable:
Accounts receivable are recorded net of allowances for doubtful accounts and reserves for returns. In the normal course of business, the Company extends credit to customers that satisfy predefined credit criteria. The Company is required to estimate the collectability of its receivables. Reserves for returns are based on historical return rates and sales patterns.
Allowances for doubtful accounts are established through the evaluation of accounts receivable agings and prior collection experience to estimate the ultimate collectioncollectability of these receivables. A one percentage point change in the estimated bad debt reserve rates, which are applied to the accounts receivable agings, would resulthave resulted in an increase or decrease in operating income for the year ended May 31, 2006 of approximately $1$2.5 million.
Inventories:
Inventories, consisting principally of books, are stated at the lower of cost, using the first-in, first-out method, or market. The Company records a reserve for excess and obsolete inventory based upon a calculation using the historical usage rates and sales patterns of its products. The impact of a one percentage point change in the obsolescence reserve would have resulted in an increase or decrease in operating income for the year ended May 31, 2006 of approximately $4.7 million.
Deferred promotion costs:
Deferred promotion costs represent direct mail, internet and telemarketing promotion costs incurred to acquire customers in the Company’s continuity and magazine businesses. Promotional costs are deferred when incurred and amortized in the proportion that current revenues bear to estimated total revenues. The Company regularly evaluates the operating performance of the promotions over their life cycle based on historical and forecasted demand and adjusts the carrying value accordingly. AllExcept as discussed above, all other advertising costs are expensed as incurred, except for certain direct marketing and telemarketing costs that are deferred as discussed above.incurred. A tenone percentage point change in estimated direct mail, internet and telemarketing revenues would not materially affect operating performance, resultingperformance.
Leases:
Lease agreements are evaluated to determine whether they are capital or operating leases in an increaseaccordance with Statement of Financial Accounting Standards (“SFAS”) No. 13, “Accounting For “Leases”, as amended (“SFAS No. 13”). When substantially all of the risks and benefits of property ownership have been transferred
20
to the Company, as determined by the test criteria in SFAS No. 13, the lease then qualifies as a capital lease.
Capital leases are capitalized at the lower of the net present value of the total amount of rent payable under the leasing agreement (excluding finance charges) or decreasethe fair market value of the leased asset. Capital lease assets are depreciated on a straight-line basis, over a period consistent with the Company’s normal depreciation policy for tangible fixed assets, but generally not exceeding the lease term. Interest charges are expensed over the period of the lease in relation to the amortizationcarrying value of promotionalthe capital lease obligation.
Rent expense for operating leases, which may include free rent or fixed escalation amounts in addition to minimum lease payments, is recognized on a straight-line basis over the duration of approximately $0.9 million.each lease term.
Prepublication costs:
The Company capitalizes the art, prepress, editorial and other costs incurred in the creation of the master copy of a book or other media (the “prepublication costs”). Prepublication costs are amortized on a straight-line basis over a three to seven year period.period based on expected future revenues. The Company regularly reviews the recoverability of the capitalized costs.
Royalty advances:
The Company records a reserve for the recoverability of its outstanding advances to authors based primarily upon historical earndown experience. Royalty advances are expensed as related revenues are earned or when future recovery appears doubtful.
Goodwill and other intangibles:
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, these reviews require the Company to estimate the fair value of its identified reporting units. For each of the reporting units, the estimated fair value is determined utilizing the expected present value of
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the projected future cash flows of the units, which is compared to the carrying value of the net assets of the reporting units. With regard to other intangibles with indefinite lives, the Company determines the fair value by asset, which is then compared to its carrying value.
Other noncurrent liabilities:
All of the rate assumptions discussed below impact the Company’s calculations of its pension and post-retirement obligations. The rates applied by the Company are based on the portfolios’ past average rates of return and discussions with actuaries. Any change in market performance, interest rate performance, assumed health care costs trend rate, or compensation rates could result in significant changes in the Company’s pension and post-retirement obligations.
Pension obligations– Scholastic Corporation and certain of its subsidiaries have defined benefit pension plans covering the majority of their employees who meet certain eligibility requirements. The Company follows Statement of Financial Accounting Standards (“SFAS”)SFAS No. 87, “Employers’ Accounting for Pensions,” in calculating the existing benefit obligations and net cost under the plans. These 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 the service and interest cost components 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 increase 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. A one percentage point change in the discount rate and expected long-term return on plan assets would resulthave resulted in an increase or decrease in operating income for the year ended May 31, 2006 of
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approximately $2.2$0.2 million and $1.2 million, respectively. Pension benefits in the cash balance plan for employees located in the United States are based on formulas in which the employees’ balances are credited monthly with interest based on the average rate for one-year United States Treasury Bills plus 1%. Contribution.Contribution credits are based on employees’ years of service and compensation levels during their employment period.
Other post-retirement benefits– Scholastic Corporation provides post-retirement benefits, consisting of healthcare and life insurance benefits, to retired United States-based employees. A majority of these employees may become eligible for these benefits if they reach normal retirement age while working for the Company. The post-retirement medical plan benefits are funded on a pay-as-you-go basis, with the Company paying a portion of the premium and the employee paying the remainder. The Company follows SFAS No. 106, “Employers’ Accounting for Post-Retirement Benefits Other than Pensions,” in calculating the existing benefit obligation, which is based on the discount rate and the assumed health care cost trend rate. The discount rate is used in the measurement of the expectedprojected and accumulated benefit obligations and the service and interest cost components of net periodic post-retirement benefit cost. 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 discount rate and the medical cost trend rate would resulthave resulted in an increase or decrease in operating income for the year ended May 31, 2006 of approximately $0.3$0.0 million and $0.2 million, respectively.
Management has discussed the development and selection of these critical accounting policies with the Audit Committee of the Corporation’s Board of Directors. The Audit Committee has reviewed the Company’s disclosure relating to the policies described in this Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
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Results of Operations
($ amounts in millions, except per share data) For fiscal years ended May 31, 2004 2003 2002 $ %(1) $ %(1) $ %(1) Revenues: Children’s Book Publishing and Distribution 1,358.6 60.8 1,189.9 60.8 1,168.6 61.0 Educational Publishing 369.1 16.5 325.9 16.6 316.9 16.5 Media, Licensing and Advertising 136.4 6.1 123.5 6.3 129.8 6.8 International 369.7 16.6 319.0 16.3 301.7 15.7 Total revenues 2,233.8 100.0 1,958.3 100.0 1,917.0 100.0 Cost of goods sold (exclusive of depreciation) 1,080.0 48.3 882.1 45.0 852.1 44.4 Cost of goods sold – Continuity charges (2) 6.8 0.3 — — — — Selling, general and administrative expenses 869.7 38.9 826.3 42.2 771.7 40.3 Selling, general and administrative expenses – Continuity charges (2) 15.2 0.7 — — — — Bad debt expense 88.3 4.0 72.3 3.7 68.7 3.6 Bad debt expense – Continuity charges (2) 2.0 0.1 — — — — Depreciation and amortization 53.5 2.4 46.1 2.3 36.6 1.9 Special severance charges (3) 3.3 0.1 10.9 0.6 — — Litigation and other charges (4) — — 1.9 0.1 1.2 0.1 Operating income 115.0 5.1 118.7 6.1 186.7 9.7 Other income (expense) (5) 8.0 0.4 2.9 0.1 (2.0) 0.1 Interest expense, net 32.5 1.5 31.5 1.6 31.4 1.6 Earnings before income taxes and Cumulative
effect of accounting change 90.5 4.1 90.1 4.6 153.3 8.0 Cumulative effect of accounting change
(net of income taxes) (6) — — — — (5.2) 0.3 Net income 58.4 2.6 58.6 3.0 93.5 4.9 Earnings per share before Cumulative effect
of accounting change: Basic 1.48 1.50 2.69 Diluted 1.46 1.46 2.51 Earnings per share: Basic 1.48 1.50 2.55 Diluted 1.46 1.46 2.38
Results of Operations ($ amounts in millions, except per share data) For fiscal years ended May 31, $ %(1) $ %(1) $ %(1) Revenues: Children’s Book Publishing and Distribution 1,304.0 57.1 1,152.5 55.4 1,358.6 60.8 Educational Publishing 416.1 18.2 404.6 19.5 369.1 16.5 Media, Licensing and Advertising 151.6 6.7 133.1 6.4 136.4 6.1 International 412.1 18.0 389.7 18.7 369.7 16.6 Total revenues 2,283.8 100.0 2,079.9 100.0 2,233.8 100.0 Cost of goods sold (exclusive of depreciation)(2) 1,099.9 48.2 979.0 47.1 1,086.8 48.7 Cost of goods sold – Reference sets(3) 3.2 0.1 — — — — Selling, general and administrative expenses(2) 916.5 40.1 840.7 40.4 870.1 39.0 Bad debt expense(2) 56.2 2.5 62.2 3.0 90.3 4.0 Bad debt expense – Educational Publishing(4) 2.9 0.1 — — — — Depreciation and amortization 65.8 2.9 63.1 3.0 62.1 2.8 Special severance charges(5) — — — — 3.3 0.1 Operating income 139.3 6.1 134.9 6.5 121.2 5.4 Other income(6) — — — — 8.0 0.4 Interest income 3.5 0.1 1.0 — 0.4 — Interest expense 35.2 1.5 36.2 1.7 40.0 1.8 Earnings before income taxes 107.6 4.7 99.7 4.8 89.6 4.0 Net income 68.6 3.0 64.3 3.1 57.8 2.6 Earnings per share: Basic 1.65 1.61 1.47 Diluted 1.63 1.58 1.44 Certain prior year amounts have been reclassified to conform with the present year presentation. (1) Represents percentage of total revenues. (2) In fiscal 2004, the Company recorded pre-tax charges of $25.4, or $0.41 per diluted share, in connection with thea review of its continuity business. These charges have been recorded primarily as components of Cost of goods sold;sold of $6.8; Selling, general and administrative expenses;expenses of $15.2; and Bad debt expense.expense of $2.0. In fiscal 2005, the Company recorded additional pre-tax charges of $3.8, or $0.06 per diluted share, primarily related to severance costs due to the review of its continuity business, which have been recorded as a component of Selling, general and administrative expenses. (3) In fiscal 2006, the Company recorded pre-tax costs of $3.2, or $0.05 per diluted share, related to the write-down of certain print reference set assets. (4) In fiscal 2006, the Company recorded pre-tax bad debt expense of $2.9, or $0.04 per diluted share, associated with the bankruptcy of a customer. (5) In fiscal 2004, and 2003, the Company recorded pre-tax Special severance charges of $3.3, or $0.05 per diluted share, and $10.9, or $0.18 per diluted share, respectively, relating to the portion of a reduction in its work force that was announced in Mayfiscal 2003 but implemented in those periods.fiscal 2004. (4)The fiscal 2003 pre-tax charge of $1.9, or $0.03 per diluted share, relates to the settlement of a securities lawsuit initiated in 1997. The fiscal 2002 pre-tax charge of $1.2, or $0.02 per diluted share, relates to the settlement of a lawsuit initiated in 1995.(5)(6) In fiscal 2004, the Company recorded a pre-tax net gain of $8.0, or $0.13 per diluted share, in connection with the early termination of a sublease by one of its tenants. In fiscal 2003, the Company sold a portion of an equity investment, resulting in a pre-tax gain of $2.9, or $0.05 per diluted share. In fiscal 2002, the Company wrote off an equity investment, resulting in a pre-tax loss of $2.0, or $0.03 per diluted share. (6)In fiscal 2002, the Company adopted Statement of Position No. 00-2, “Accounting by Producers and Distributors of Films,” which resulted in an after-tax charge of $5.2, or $0.13 per diluted share, recorded as a Cumulative effect of accounting change.19
Results of Operations – Consolidated
Revenues for fiscal 20042006 increased 14.1%9.8%, or $275.5$203.9 million, to $2,233.8$2,283.8 million, as compared to $1,958.3$2,079.9 million in fiscal 2003, due to2005, based on revenue growth in each of the Company’s four operating segments. segments, but primarily attributable to $151.5 million in higher revenues from theChildren’s Book Publishing and Distributionsegment, revenue grew by $168.7 million, primarily from higher Harry Potter revenues, which increased approximately $125 million, substantiallyprincipally due to the June 21, 2003 release ofHarry Potter and the Half-Blood Prince, the sixth book in the planned seven book series, in July 2005. Revenues grew in theInternational; Media, Licensing and Advertising; andEducational Publishing segments by $22.4 million, $18.5 million and $11.5 million, respectively. Revenues for fiscal 2005 decreased 6.9%, or $153.9 million, as compared to $2,233.8 million in fiscal 2004. This decrease related primarily to $206.1 million in lower revenues from theChildren’s Book Publishing and Distributionsegment, principally due to the fiscal 2004 release ofHarry Potter and the Order of the Phoenix, the fifth book in the series. This decrease was partially offset by higher revenues from theHarry PotterEducational Publishing series. In fiscal 2003, revenues increased 2.2%, or $41.3 million, as compared to $1,917.0 million in fiscal 2002, primarily as a result of increased revenues in the Children’s Book Publishing and Distribution segment and the International segmentsegments of $21.3$35.5 million and $17.3$20.0 million, respectively. Businesses acquired in fiscal 2002 contributed approximately $58 million of incremental revenues to the Company in fiscal 2003.
Cost of goods sold as a percentagefor fiscal 2006 increased to $1,103.1 million, or 48.3% of revenues, increasedcompared to 48.6%, including$979.0 million, or 47.1% of revenues, in the Cost of goods sold – Continuity charges of $6.8 million, inprior fiscal 2004, from 45.0% in fiscal 2003,year. This increase was primarily due to higher costs related to the release ofHarry Potter and the Half-Blood Princein fiscal 2006. Cost of goods sold in fiscal 2006 also included $3.2 million related to the write-down of certain print reference set assets, which is included in theEducational Publishingsegment. Cost of goods sold for fiscal 2005 decreased 9.9%, or $107.8 million, as compared to $1,086.8 million, or 48.7% of revenues, in the prior fiscal year. This decrease was primarily due to costs in fiscal 2004 related to the release ofHarry Potter and the Order of the Phoenix.in that year. In fiscal 2003,2004, the Company recorded certain charges in connection with a review of its continuity business (“Continuity charges”), of which $6.8 million was recorded as a component of Cost of goods sold as a percentage of revenues increased to 45.0% from 44.4% in fiscal 2002, principally due to an unfavorable change in revenue mix.sold.
In fiscal 2006, Selling, general and administrative expenses as a percentage of revenuesrevenue decreased slightly to 39.6%, including40.1% from 40.4% in the Selling, general and administrative – Continuity charges of $15.2 million, inprior fiscal 2004, from 42.2% in fiscal 2003.year. The decrease was primarily due to higher the revenue benefit of the fiscal 2006Harry Potterrevenuesrelease without a corresponding increase in expenses. In fiscal 2003,related expense, substantially offset by increased costs in other portions of theChildren’s Book Publishing and Distributionsegment and the Educational Publishing Segment. Selling, general and administrative expenses as a percentage of revenuesrevenue in fiscal 2005 increased to 42.2%40.4% from 40.3%39.0% in the prior fiscal 2002,year, primarily due to higher coststhe revenue benefit of the fiscal 2004Harry Potterrelease without a corresponding increase in related expense. In fiscal 2005 and fiscal 2004, Selling, general and health care insuranceadministrative expenses included Continuity charges of $3.8 million and other employee benefit costs.$15.2 million, respectively.
Bad debt expense increasedfor fiscal 2006 decreased to $90.3$59.1 million, or 4.1%2.6% of revenues, including the Bad debt expense – Continuity charges of $2.0 million, in fiscal 2004, as compared to $72.3$62.2 million, or 3.7%3.0% of revenues, in fiscal 2003. This increase was primarily attributable to higher bad debt expense from the Company’s continuity programs, which are primarily included in the Children’s Book Publishing and Distribution segment. In fiscal 2003, Bad debt expense increased $3.6 million from $68.7 million, or 3.6% of revenues, in fiscal 2002, due to growth in continuity programs.
Depreciation expense for fiscal 2004 increased by $7.6 million to $53.2 million, as compared to $45.6 million in fiscal 2003, primarily due to the completion of information technology projects in the prior fiscal year. In fiscal 2003, depreciation expense increased by $10.0 million from $35.6 million in fiscal 2002. This increase was primarily due to incremental depreciation of $4.8 million related to the completion of capital projects, including information technology and Internet projects, and $2.7 million related to the expansion of facilities.
On May 28, 2003, the Company announced a reduction in its global work force of approximately 400 positions. This decision resulted in a Special severance charge of $10.9 million in fiscal 2003. In connection with that announcement, Special severance charges totalling $3.3 million were recorded in fiscal 2004 for employees notified in that fiscal year.
Litigation and other charges reflect a $1.9 million charge recorded in fiscal 2003 for the settlement of a securities lawsuit initiated in 1997, which represents the portion of the total settlement amount of $7.5 million that was not paid by the insurance carrier. In fiscal 2002, the Company recorded a $1.2 million charge for the settlement of a lawsuit filed in 1995, which represents the amount by which the settlement and related legal expenses exceeded the previously recorded liability.
The resulting operating income decreased by $3.7 million, or 3.1%, to $115.0 million, or 5.1% of
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revenues, in fiscal 2004, as compared to $118.7 million, or 6.1% of revenues, in fiscal 2003. This decrease includes the effect of the continuity charges of approximately $25 million recorded in fiscal 2004, of which approximately $22 million was reflected in the results of the Children’s Book Publishing and Distribution segment. Including these continuity charges, operating profit in the Children’s Book Publishing and Distribution segment decreased by $19.6 million, primarily due to weaker results in the Company’s continuity business. The decrease in the continuity business was largely offset by improvements in the balance of the Children’s Book Publishing and Distribution segment and in each of the Company’s remaining three operating segments. Operating income for fiscal 2003 decreased by $68.0 million, or 36.4%, from $186.7 million, or 9.7% of revenues, in fiscal 2002. This decrease was primarily due to lower profitsbad debt in the Company’s continuity business, which is included in theChildren’s Book Publishing and Distributionsegment, partially offset by bad debt expense of $44.0$2.9 million associated with the bankruptcy of a for-profit educational services customer in theEducational Publishingsegment. Bad debt expense for fiscal 2005 decreased by $28.1 million, or 31.1%, as compared to $90.3 million, or 4.0% of revenues, in the prior fiscal year, primarily related to lower bad debt in the Company’s continuity business. The lower levels of bad debt expense in the Company’s continuity business resulted primarily from the Company’s previously announced plan for this business to focus on its more productive customers. Bad debt expense in fiscal 2004 included Continuity charges of $2.0 million.
Depreciation and amortization expense for fiscal 2006 increased to $65.8 million, compared to $63.1 million in fiscal 2005. Depreciation and amortization expense for fiscal 2005 increased by $1.0 million, compared to $62.1 million in fiscal 2004. These increases were principally associated with the depreciation of information technology equipment.
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In fiscal 2004, the Company recorded $3.3 million in Special severance charges related to a reduction in its global work force.
The resulting operating income for fiscal 2006 increased by $4.4 million, or 3.3%, to $139.3 million, as compared to $134.9 million in the prior fiscal year. This improvement reflected $20.7 million in higher profits from theChildren’s Book Publishing and Distributionsegment, partially offset by decreases of $8.9 million in theEducational Publishingsegment and $7.6 million in the International segment, as compared to the prior fiscal year. In fiscal 2005, operating income increased by $13.7 million, or 11.3%, compared to $121.2 million in the prior fiscal year. This improvement reflected $22.4 million in higher profits from theEducational Publishingsegment, partially offset by a decrease of $11.1 million in theChildren’s Book Publishing and Distributionsegment andprofits, as compared to the Special severance charge of $10.9 million recorded inprior fiscal 2003.year.
In fiscal 2004, the Company recorded $8.0 million in Other income, representing the net gain on the early termination of a sublease by one of its tenants. Other
Interest income was $2.9 million in fiscal 2003, representing a gain from the sale of a portion of an interest in a French publishing company. Other expense was $2.0 million in fiscal 2002, representing a charge for the write-off of an equity investment.
Net interest expense for fiscal 20042006 increased $1.0by $2.5 million to $32.5$3.5 million, as compared to $31.5$1.0 million in fiscal 2003. This increase was2005, primarily due to $7.4higher average cash balances. Interest income in fiscal 2005 increased by $0.6 million as compared to fiscal 2004.
Interest expense for fiscal 2006 decreased by $1.0 million, or 2.8%, to $35.2 million, as compared to $36.2 million in interestfiscal 2005. Interest expense relatedfor fiscal 2005 decreased by $3.8 million, as compared to the $175.0$40.0 million of 5% Notes due 2013 (the “5% Notes”) issued by Scholastic Corporation in April 2003, partially offset by reduced interest expense of $4.0 millionfiscal 2004. These decreases were primarily due to the repayment of $125.0 million of 7% Notes of Scholastic Corporation (the “7% Notes”) at maturity in December 2003 (see “Liquidity and Capital Resources”) and a $2.7 million reduction in interest expense on revolving credit agreements as a result of lower utilization of these agreements due primarily to the issuance of the 5% Notes.average debt levels.
The Company’s effective tax rates wererate in fiscal 2006 increased to 36.25% from 35.5%, 35.0% and 35.6% of earnings before taxes for each of fiscal 2004, 20032005 and 2002, respectively.
In fiscal 2002, the Company recorded an after-tax charge of $5.2 million, which2004. The increase in fiscal 2006 was reflected as a Cumulative effect of accounting change, as a result of its adoption of Statement of Position No. 00-2, “Accounting by Producersprimarily due to higher effective state and Distributors of Films.”local tax rates.
Net income was $58.4increased 6.7% to $68.6 million or 2.6% of revenues, in fiscal 2004, $58.62006, from $64.3 million or 3.0% of revenues, in fiscal 2003 and $93.52005, which increased 11.2% from $57.8 million or 4.9% of revenues, in fiscal 2002.2004. The basic and diluted earnings per share of Class A Stock and Common Stock were $1.48$1.65 and $1.46,$1.63, respectively, in fiscal 2004, $1.502006, $1.61 and $1.46,$1.58, respectively, in fiscal 20032005, and $2.55$1.47 and $2.38,$1.44, respectively, in fiscal 2002.2004.
Results of Operations – Segments
CHILDREN’S BOOK PUBLISHING AND DISTRIBUTION
The Company’s Children’s Book Publishing and Distribution segment includes the publication and distribution of children’s books in the United States through school-based book clubs and book fairs, school-based and direct-to-home continuity programs and the trade channel.
($ amounts in millions) 2004 2003 2002 Revenue $1,358.6 $1,189.9 $1,168.6 Operating profit 114.8 (1) 134.4 178.4 Operating margin 8.4 % 11.3 % 15.3 %
Results of Operations – Segments CH I L D R E N’S BO O K PU B L I S H I N G A N D DI S T R I B U T I O N ($ amounts in millions) 2006 2005 2004 Revenue $ 1,304.0 $ 1,152.5 $ 1,358.6 Operating income 114.2 93.5 (1) 104.6 (1) Operating margin 8.8 % 8.1 % 7.7 %
| (1) | fiscal 2004. |
Children’s Book Publishing and Distributionrevenues accounted for 60.8%57.1% of the Company’s revenues in fiscal 2004,2006, 55.4% in fiscal 2005 and 60.8% in fiscal 2003 and 61.0% in fiscal 2002.2004. In fiscal 2004,2006, segment revenues increased 14.2%by $151.5 million, or 13.1%, or $168.7 million, to $1,358.6$1,304.0 million from $1,189.9$1,152.5 million in fiscal 2003.
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The fiscal 2004 segment revenue2005. This increase relateswas primarily due to higher revenues in the Company’s trade business, which rose by $171.7 million driven by the release of the sixthHarry Potter tradebook,Harry Potter and the Half-Blood Prince, in July 2005, as well as higher revenues of approximately $125 million and increasesfrom school-based book fairs, which improved by $22.2 million. These improvements were partially offset by declines in school-based book club and school-based book fair revenues, of $53.5which decreased by $23.0 million, and $18.0 million, respectively. These revenue increases were partially offset by a decline inlower continuity program revenues, of $15.5which decreased by $19.4 million.
In fiscal 2005, segment revenues decreased by $206.1 million, asor 15.2%, from $1,358.6 million in fiscal 2004. This decrease was primarily attributable to a $142.2 million decline in the Company’s trade revenues, in a year without aHarry Potterrelease. Continuity program revenues decreased by $73.8 million compared to the prior fiscal year. Excludingyear, as the direct-to-home continuity business describedCompany implemented its new plan for this business. These decreases were partially offset by an increase of $17.0 million in revenues from the table below,school-based book fairs business.
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Revenues from school-based book fairs accounted for 29.5% of segment revenues in fiscal 20042006, compared to 31.5% in fiscal 2005 and 25.4% in fiscal 2004. In fiscal 2006, school-based book fair revenues increased by $177.26.1% to $384.8 million over fiscal 2005, primarily due to $1,154.8 million,growth in revenue per fair as compared to $977.6 million in fiscal 2003.
In fiscal 2003, segmenta result of better product offerings. Fiscal 2005 revenues increased 1.8%, or $21.3by 4.9% to $362.6 million from $1,168.6 millionversus fiscal 2004, primarily due to growth in fiscal 2002. Businesses acquired in fiscal 2002 contributed incremental revenues of $43.4 million to this segment in fiscal 2003. In fiscal 2003, revenues from school-based continuity programs and school-based book fairs increased $17.3 million and $14.5 million, respectively, compared to fiscal 2002. These increases were partially offset by lower Harry Potter trade revenues of approximately $30 million in fiscal 2003. Excluding the direct-to-home continuity business described in the table below, segment revenues in fiscal 2003 increased by $18.0 million from $959.6 million in fiscal 2002.revenue per fair.
School-based book club revenues accounted for 29.7%28.7% of Children’s Book Publishing and Distribution revenues in fiscal 2004,2006, compared to 29.5%34.4% in fiscal 20032005 and 30.8%29.7% in fiscal 2002.2004. In fiscal 2004,2006, school-based book club revenues increaseddecreased by 15.3%, or $53.55.8% to $373.9 million overas compared to fiscal 2003,2005, primarily due to an increase in thea lower number of orders aided byin the July 2003 acquisition of selected assets of Troll Holdings, Inc., formerly a national school-based club operatorTrumpet and publisher (“Troll”).Troll/Carnival clubs, which resulted from the Company’s promotional strategy to shift customers from these smaller, less efficient clubs to its core Scholastic-branded clubs. In fiscal 2003,2005, school-based book club revenues declined by 2.2%1.8%, or $8.0 million, over fiscal 2002, primarily due to a decrease in orders.
Revenues from school-based book fairs accounted for 25.4% of segment revenues in fiscal 2004, compared to 27.5% in fiscal 2003 and 26.8% in fiscal 2002. In fiscal 2004, school-based book fair revenues increased by 5.5%, or $18.0$7.1 million, to $345.6$396.9 million, over fiscal 2003, primarily due to growth in revenue per fair. In fiscal 2003, revenues from school-based book fairs increased 4.6%, or $14.5 million, over fiscal 2002, primarily due to growth in fair count of approximately 7%.
In fiscal 2004, continuity revenues accounted for 21.0% of segment revenues, as compared to 25.3% in fiscal 2003 and 24.0% in fiscal 2002. Revenues from the direct-to-home continuity business were 15.0%, 17.8% and 17.9% of segment revenues in fiscal 2004, 2003 and 2002, respectively. Revenues from school-based continuity programs were 6.0%, 7.5% and 6.1% of segment revenues in fiscal 2004, 2003 and 2002, respectively. In fiscal 2004, revenues from the direct-to-home continuity business decreased 4.0%, or $8.5 million, to $203.8 million, from $212.3 million in fiscal 2003, principally as a result of lower net revenues generated through telemarketing, which was adversely affected by the implementation, effective October 1, 2003, of the National Do Not Call Registry legislation. Revenues from school-based continuity programs in fiscal 2004 decreased 7.9%, or $7.0 million, in revenues, as compared to fiscal 2003. In fiscal 2003, revenues from the direct-to-home continuity business increased 1.6%, or $3.3 million, from $209.0 million in fiscal 2002,2004, primarily due to incremental revenues of $12.2 million from the fiscal 2002 acquisition of Baby’s First Book Club. Higher enrollments from school-based continuity programs resulted in an increase of $17.3 million in revenues in fiscal 2003 as compared to fiscal 2002.lower revenue per order.
The trade distribution channel accounted for 23.9%27.0% of segment revenues in fiscal 2004,2006, as compared to 17.7%15.7% in fiscal 20032005 and 18.4%23.9% in fiscal 2002.2004. Trade revenues increased to $352.6 million in fiscal 2006 compared to $180.9 million in fiscal 2005, due to the release ofHarry Potter and the Half-Blood Princein July 2005. In fiscal 2005, trade revenues decreased 44.0%, compared to $323.1 million in fiscal 2004, by $112.7 million, or 53.6%,principally due to a decline inHarry Potterrevenues as compared to $208.3 million in fiscal 2003, substantially due to2004, which included the June 21, 2003 release ofHarry Potter and the Order of the Phoenix. In fiscal 2003, Trade revenues decreased 3.0%, or $6.5forHarry Potterwere approximately $195 million, from $214.8$20 million and $175 million in fiscal 2002,2006, 2005 and 2004, respectively.
In fiscal 2006, continuity revenues accounted for 14.8% of segment revenues, as compared to 18.4% in fiscal 2005 and 21.0% in fiscal 2004. Revenues from the continuity business in fiscal 2006 decreased 9.1% to $192.7 million, as compared to fiscal 2005. Revenues from the continuity business in fiscal 2005 decreased 25.8% to $212.1 million, as compared to fiscal 2004. These decreases were consistent with the Company’s previously announced plan for this business to focus on its more productive customers.
Segment operating income in fiscal 2006 improved by $20.7 million, or 22.1%, to $114.2 million, compared to $93.5 million in fiscal 2005, principally due to a decline in revenues from better operating results for the trade business, driven by the profit impact of higherHarry Potter backlist titles of approximately $30 million and other backlist titles of approximately $6 million,revenues. This improvement was partially offset by incrementallower operating results in the school-based book club and continuity businesses due to decreases in revenues of $31.3and increased promotional costs.
In fiscal 2005, segment operating income declined by $11.1 million, or 10.6%, from the fiscal 2002 acquisition of Klutz. Trade revenues for Harry Potter accounted for
22
approximately $175 million, $50 million and $80$104.6 million in fiscal 2004, 2003 and 2002, respectively.
Segment operating profit in fiscal 2004 declined $19.6 million, or 14.6%, to $114.8 million, or 8.4% of revenues, compared to $134.4 million, or 11.3% of revenues, in fiscal 2003. The2004. This decline in segment operating profit in fiscal 2004 was primarily dueprincipally attributable to lower operating results for continuity programs, partially offset by improvements in the Company’s trade business, ofwhich decreased by approximately $21$27 million, resulting primarily from higher due to lowerHarry Potterrevenues, andpartially offset by an approximately $22 million increase in the school-based book club business of approximately $17 million.operating income from continuity programs. In fiscal 2004, the Company experienced greater than anticipated challenges in its continuity business, including the effects of the National Do Not Call Registry legislation. These challenges resulted in lower net revenues generated through telemarketing, increased promotion costs2005 and higher bad debt provisions. As a result, the Company reviewed and made changes in its continuity business in fiscal 2004, resulting in continuitysegment operating expenses included Continuity charges of approximately $4 million and $22 million, for this segment, primarily representing write-downs of deferred promotion costs of approximately $11 million and inventory from discontinued programs of approximately $6 million. In fiscal 2004, the direct-to-home continuity business operating loss was $10.7 million, which includes approximately $15 million of the continuity charges, as compared to operating income of $30.7 million in fiscal 2003. Excluding the direct-to-home continuity business described in the table below, segment operating profit in fiscal 2004 increased $21.8 million to $125.5 million, or 10.9% of revenues, from $103.7 million, or 10.6% of revenues, in fiscal 2003.
In fiscal 2003, segment operating profit declined $44.0 million, or 24.6%, to $134.4 million, or 11.3% of revenues, compared to $178.4 million, or 15.3% of revenues, in fiscal 2002. This decrease was primarily related to a revenue decline in higher margin Harry Potter and other trade backlist titles. Operating profit for the direct-to-home continuity business decreased in fiscal 2003 to $30.7 million, or 14.5% of revenues, from $39.7 million, or 19.0% of revenues, in fiscal 2002. The $9.0 million decrease in operating profit in fiscal 2003 was primarily related to an increase of approximately $6 million in Selling, general and administrative expenses. Excluding the direct-to-home continuity business described in the table below, segment operating profit in fiscal 2003 decreased $35.0 million to $103.7 million, or 10.6% of revenues, from $138.7 million, or 14.5% of revenues, in fiscal 2002.respectively.
The following table highlights the results of the direct-to-home portion of the Company’s continuity programs, which consistconsists primarily of the business formerly operated by Grolier and are included in theChildren’s Book Publishing and DistributionDistibutionsegment.
($ amounts in millions) 2004 2003 2002 Revenue $203.8 $212.3 $209.0 Operating (loss) profit (10.7) (1) 30.7 39.7 Operating margin * 14.5 % 19.0 %
Direct-to-home continuity ($ amounts in millions) 2006 2005 2004 Revenue $ 134.9 $ 147.5 $ 203.8 Operating loss (13.6 ) (2.8 )(1) (10.4 )(1) Operating margin * * * * not meaningful
In fiscal 2006, revenues from the direct-to-home portion of the Company’s continuity business decreased to $134.9 million from $147.5 million in fiscal 2005, compared to $203.8 million in fiscal 2004.
E26DUCATIONAL PUBLISHING
The direct-to-home continuity business operating loss was $13.6 million in fiscal 2006 compared to a $2.8 million operating loss in fiscal 2005, due to decreased revenue and higher promotional costs and increased severance costs related to the Company’s decision to outsource the remaining telemarketing operations associated with this business. In fiscal 2004, the $10.4 million operating loss was primarily due to the effect of the Continuity charge of approximately $15 million attributable to this business.
The Company’s Educational Publishing Excluding the direct-to-home continuity business, segment includes the publicationrevenues in fiscal 2006 were $1,169.1 million, as compared to $1,005.0 million in fiscal 2005 and distribution$1,154.8 million in fiscal 2004, and segment operating income in fiscal 2006 was $127.8 million, compared to schools$96.3 million in fiscal 2005 and libraries of curriculum materials, children’s books, classroom magazines and print and on-line reference and non-fiction products for grades pre-K to 12$115.0 million in the United States.fiscal 2004.
| ($ amounts in millions) | ||||||||||||||||
| ED U C A T I O N A L PU B L I S H I N G | ED U C A T I O N A L PU B L I S H I N G | |||||||||||||||
| ($ amounts in millions) | ||||||||||||||||
| 2004 | 2003 | 2002 | 2006 | 2005 | 2004 | |||||||||||
| Revenue | $ 369.1 | $ 325.9 | $ 316.9 | $ | 416.1 | $ | 404.6 | $ | 369.1 | |||||||
| Operating profit | 53.2 | 41.9 | 44.1 | |||||||||||||
| Operating income | 69.6 | (1) | 78.5 | 56.1 | ||||||||||||
| Operating margin | 14.4 | % | 12.9 | % | 13.9 | % | 16.7 | % | 19.4 | % | 15.2 | % | ||||
| (1) | Includes $3.2 related to the write-down of certain print reference set assets and bad debt expense of $2.9 related to the bankruptcy of a customer. |
Segment revenues accounted for 16.5%18.2% of the Company’s revenues in fiscal 2004,2006, compared to 16.6%19.5% in fiscal 20032005 and 16.5% in fiscal 2002.2004. In fiscal 2004, 2006,Educational Publishingrevenues increased by $11.5 million, or 2.8%, to $369.1$416.1 million from $325.9$404.6 million in the prior fiscal 2003.year. This increase was due to approximately $18 million of higher revenues from sales of educational technology products, which includes the Company’sREAD 180reading intervention program and its new FASTT Math program, partially offset by $3.8 million in lower Library Publishing revenue. The $43.2$35.5 million revenue increase inEducational Publishingrevenues in fiscal 2005 compared to fiscal 2004 was due to higher revenues from sales of children’s books, primarily sold to public school systems as
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classroom libraries and other collections, of $28.3 million and increased Read 180® revenues of $19.2 million. These increases were partially offset by a decrease in Scholastic Literacy Place® revenues. In fiscal 2003, the $9.0 million increase in Educational Publishing revenues as compared to fiscal 2002 was primarily due to $10.4 million of incremental revenues related to fiscal 2002 acquisitions.educational technology products.
Segment operating profit for this segmentincome in fiscal 2004 increased2006 decreased by $11.3$8.9 million, or 27.0%11.3%, to $53.2$69.6 million, as compared to $78.5 million in the prior fiscal year, reflecting increased costs related to additional sales and technology support staff in connection with the Company’s educational technology products, particularly the upgradedREAD 180 Enterprise Edition.Fiscal 2006 segment results also included $3.2 million of costs primarily due to the increaseaccelerated amortization of prepublication costs related to the Company’s decision not to update certain print reference sets in revenues, as well as higher gross margins resulting fromresponse to increased use of internet-based reference products. In addition, fiscal 2006 segment results included $2.9 million of bad debt expense related to the bankruptcy of a favorable sales mix.for-profit educational services customer. In fiscal 2003,2005, segment operating profit decreased $2.2income increased by $22.4 million, or 39.9%, from $44.1$56.1 million in fiscal 2002,2004, primarily due to the $2.1 million portionrevenue growth from sales of the Special severance charge related to this segment in fiscal 2003.educational technology products, which have relatively higher gross margins.
| ME D I A, LI C E N S I N G A N D AD V E R T I S I N G | |||||||||
| ($ amounts in millions) | |||||||||
| 2006 | 2005 | 2004 | |||||||
| Revenue | $ | 151.6 | $ | 133.1 | $ | 136.4 | |||
| Operating income | 10.3 | 11.0 | 10.9 | ||||||
| Operating margin | 6.8 | % | 8.3 | % | 8.0 | % | |||
MEDIA, LICENSING AND ADVERTISING
The Company’s Media, Licensing and Advertising segment includes the production and/or distribution of software in the United States; the production and/or distribution primarily by and through SEI; of programming and consumer products (including children’s television programming, videos, software, feature films, promotional activities and non-book merchandise), and advertising revenue; including sponsorship programs.
($ amounts in millions) 2004 2003 2002 Revenue $136.4 $123.5 $129.8 Operating loss (2.5) (2.9) (0.2) Operating margin * * *
* not meaningful
Media, Licensing and Advertisingrevenues accounted for 6.1%6.7% of the Company’s revenues in fiscal 2004, 6.3%2006, 6.4% in fiscal 20032005 and 6.8%6.1% in fiscal 2002.2004. In fiscal 2004,2006, revenues increasedimproved by $12.9$18.5 million, or 10.4%13.9%, to $136.4$151.6 million from $123.5$133.1 million in fiscal 2003,2005. This increase was primarily due to $17.5a $6.7 million of incrementalincrease in revenues generated from thesoftware and new multimedia products, such asRead With Me DVD!andLeapster,and revenue increases from consumer magazine custom publishing programs, Back to Basics direct-to-home toy catalog business thatToys and television programming of $5.0 million, $4.3 million and $3.0 million, respectively. In fiscal 2005, segment revenues decreased by $3.3 million, or 2.4%, from $136.4 million in fiscal 2004, due principally to a decline of $6.8 million in programming revenue, primarily as a result of the Company acquired in August 2003. Additionally, programming revenues increased by $5.9 million, primarily due to the Februaryfiscal 2004 completion and deliveryrelease of the feature filmClifford’s Really Big Movie. These revenues were, which was partially offset by $9.6$2.9 million in decreasedhigher revenues from softwareBack to Basic Toys.
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Media, Licensing and multimedia products. In fiscal 2003, revenuesAdvertisingoperating income decreased by 4.9%, or $6.3 million, from $129.8slightly to $10.3 million in fiscal 2002, primarily due2006, compared to lower sales of software and multimedia products of $9.7$11.0 million and lower non-book merchandise revenues of $3.3 million, partially offset by increased television programming revenues of $3.7 million from Clifford the Big Red Dog and incremental television programming revenues of $3.6 million relating to fiscal 2002 acquisitions.
The operating loss for the Media, Licensing and Advertising segment in fiscal 2004 improved by $0.4 million2005. This decrease occurred despite higher revenues due in part to $2.5higher production costs associated with the delivery of certain television programming. In fiscal 2005, segment operating income remained relatively flat at $11.0 million, compared to an operating loss of $2.9$10.9 million in fiscal 2003, as contributions from Back to Basics were offset by lower margins as a result of changes in business mix. In fiscal 2003, segment operating loss increased by $2.7 million from $0.2 million in fiscal 2002, primarily due to decreased revenues.2004.
INTERNATIONAL
The International segment includes the publication and distribution of products and services outside the United States by the Company’s international operations, and its export and foreign rights businesses.
($ amounts in millions) 2004 2003 2002 Revenue $369.7 $319.0 $301.7 Operating profit 24.3 (1) 19.4 24.6 Operating margin 6.6 % 6.1 % 8.2 %
IN T E R N A T I O N A L ($ amounts in millions) 2006 2005 2004 Revenue $ 412.1 $ 389.7 $ 369.7 Operating income 22.7 30.3 23.5 (1) Operating margin 5.5 % 7.8 % 6.4 %
| (1) | $3. |
Internationalrevenues accounted for 16.6%18.0% of the Company’s revenues in fiscal 2004, 16.3%2006, 18.7% in fiscal
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2003 2005 and 15.7%16.6% in fiscal 2002.2004. Segment revenues increased $50.7by $22.4 million, or 15.9%5.7%, to $412.1 million in fiscal 2006 from $389.7 million in fiscal 2005. This increase was due to higher local currency revenue growth in Southeast Asia, Australia and Canada equivalent to $9.7 million, $5.3 million and $3.3 million, respectively. In addition, fiscal 2006 segment revenue benefited from favorable changes in foreign currency exchange rates, which increased by $4.7 million compared to the prior year. In fiscal 2005,Internationalrevenues increased by $20.0 million, or 5.4%, from $369.7 million in fiscal 2004, from $319.0 million in fiscal 2003. This revenue growth was primarily due to the favorable impact of foreign currency exchange rates of $36.5rates.
Internationaloperating income decreased by $7.6 million and increased revenues from the Company’s export business of $12.3 million. In fiscal 2003, International revenues increased $17.3 million, or 5.7%, from $301.7to $22.7 million in fiscal 2002,2006 from $30.3 million in fiscal 2005, substantially due to the lower operating results in the United Kingdom. In fiscal 2005, segment operating income increased by $6.8 million, or 28.9%, from $23.5 million in fiscal 2004, primarily due to higher operating profit in Australia. The fiscal 2004 segment operating results included approximately $3 million of Continuity charges.
Liquidity and Capital Resources
Cash and cash equivalents were $205.3 million at May 31, 2006, compared to $110.6 million at May 31, 2005 and $17.8 million at May 31, 2004.
Cash provided by operating activities decreased by $10.8 million to $235.8 million in fiscal 2006, compared to $246.6 million in fiscal 2005, primarily as a result of changes in working capital accounts. Changes in working capital that had a negative effect on cash flows included: Inventory, which increased by $21.5 million in fiscal 2006, compared to a decrease of $3.2 million in fiscal 2005, primarily due to growth in inventory levels in the Company’s continuity and trade businesses in fiscal 2006; and Deferred promotion costs, which increased by $9.8 million in fiscal 2006, compared to a decrease of $2.7 million in fiscal 2005, primarily due to increased internet promotional spending in the Company’s continuity business. These factors were offset by favorable changes in Accounts payable and other accrued expenses, which increased by $31.6 million in fiscal 2006, compared to a decrease of $12.8 million in fiscal 2005, primarily due to accrued expenses associated withHarry Potterin fiscal 2006.
Cash used in investing activities totaled $161.2 million and $160.4 million in fiscal 2006 and fiscal 2005, respectively. Prepublication expenditures totaled $49.6 million in fiscal 2006, a decrease of $8.4 million from fiscal 2005, primarily due to the favorable impactdevelopment of foreign currency exchange rates of $16.8 million.
the upgradedInternationalREAD 180 Enterprise Edition operating profit increased $4.9 million to $24.3 million, or 6.6% of revenues, in fiscal 2004 from $19.42005. Additions to property, plant and equipment totaled $66.1 million or 6.1% of revenues, in fiscal 2003, primarily due2006, an increase in operating profit from the export business. In fiscal 2003, operating profit decreased $5.2of $16.3 million from $24.6fiscal 2005, principally due to higher information technology spending.
Cash provided by financing activities was $19.8 million or 8.2% of revenues, in fiscal 2002, primarily2006, compared to $6.5 million in fiscal 2005, due to higher net borrowings under various international credit lines.
Due to the $3.8 million portion of the Special severance charge related to this segment in fiscal 2003.
Seasonality
The Company’s school-based book clubs, school-based book fairs and mostseasonality of its magazines operate on a school-year basis. Therefore, the Company’s business is highly seasonal. As a consequence, the Company’s revenuesbusinesses, as discussed in the first and third quarters of the fiscal year generally are lower than its revenues in the other two fiscal quarters. Typically, school-based book club and book fair revenues are greatest in the second quarter of the fiscal year, while revenues from the sale of instructional materials are the highest in the first quarter. The Company experiences a substantial loss from operations in the first quarter.
In the June through October time period,Item 1, “Business—Seasonality,” the Company experiences negative cash flow due toin the seasonality of its business.June through
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October time period. As a result of the Company’s business cycle, seasonal borrowings have historically increased during June, July and August, have generally peaked in September or October, and have been atdeclined to their lowest point in May.
LiquidityThe Company’s operating philosophy is to use cash provided from operating activities to create value by paying down debt, reinvesting in existing businesses and, Capital Resources
Cash and cash equivalents were $17.8 million at May 31, 2004, comparedfrom time to $58.6 million at May 31, 2003 and $10.7 million at May 31, 2002.
Cash flow providedtime, by operations increased $33.1 million to $212.3 million in fiscal 2004, including $10.0 million received in connection with the early terminationmaking acquisitions that will complement its portfolio of a sublease by one of the Company’s tenants, compared to $179.2 million in fiscal 2003. Deferred promotion costs decreased $12.6 million in fiscal 2004 compared to an increase of $7.5 million in fiscal 2003, primarily due to the write-down of deferred promotion costs included in the continuity charges. Amortization of prepublication and production costs increased $18.1 million to $79.1 million in fiscal 2004 compared to $61.0 million in fiscal 2003, primarily due to higher amortization of prepublication costs for product updates in the Company’s EducationalPublishing segment. Depreciation and amortization increased $7.4 million in fiscal 2004 as compared to fiscal 2003, primarily due to the completion of information technology projects in fiscal 2003. Accounts payable and other accrued expenses increased $8.3 million in fiscal 2004 compared to an increase of $21.5 million in fiscal 2003, primarily due to the timing of payments.
Cash outflow for investing activities was $147.6 million for fiscal 2004. Additions to property, plant and equipment totaled $43.4 million in fiscal 2004, a decrease of $40.5 million from fiscal 2003. This decrease was principally due to the acquisition of the Maumelle Facility for $14.7 million, spending on the expansion of Internet operations of $11.1 million and expenses related to the development of an inventory planning software system of $10.0 million in fiscal 2003. Acquisition-related payments of $8.8 million in fiscal 2004 relate to the purchase of certain assets of Troll and the purchase of Back to Basics.
In April 2003, Scholastic Corporation issued the 5% Notes. Net proceeds of $171.3 million were used: (a)
25
to retire all outstanding indebtedness of $36.0 million under a credit facility that had been established by the Company in June 2000 to finance a portion of the purchase price for Grolier, which was then canceled; and (b) to reduce $135 million of indebtedness outstanding under the Loan Agreement and the Revolver, as defined in “Financing” below. Scholastic Corporation repaid all $125.0 million of the outstanding 7% Notes at maturity on December 15, 2003 using cash on hand and borrowings available under the Loan Agreement and the Revolver made possible by the issuance of the 5% Notes. Consequently, the Company had decreased cash and lower debt levels at May 31, 2004 as compared to May 31, 2003.
businesses. The Company believes its existing cash position, combined withthat funds generated fromby its operations and funds available under the Credit Agreement, described in “Financing” below, and the Revolver,current credit facilities will be sufficient to finance short- and long-term capital requirements.
The Company believes it has adequate access to capital to finance its ongoing working capital requirements. The Company anticipates refinancingoperating needs and to repay its debt obligations prioras they become due, including its 5.75% Notes due January 15, 2007 (the “5.75% Notes”), as discussed under “Financing” below. The Company’s credit rating was downgraded to their respective maturity dates,BB+ by Standard & Poor’s (“S&P”) on March 23, 2006 and to Ba1 by Moody’s Investors Service (“Moody’s”) on June 20, 2006. S&P further downgraded the Company’s credit rating to BB on July 27, 2006. Under prevailing market conditions, the Company believes that these ratings afford it adequate access to the extent not paid through cash flow.public and private markets for debt.
The following table summarizes, as of May 31, 2004,2006, the Company’s contractual cash obligations by future period (see Notes 3 and 4 of Notes to Consolidated Financial Statements in Item 8, “Consolidated Financial Statements and Supplementary Data”):
| Contractual Obligations | ||||||||||||||
| Long-term debt(1) | $ | 312.2 | $ | 25.2 | $ | 16.8 | $ | 182.7 | $ | 536.9 | ||||
| Lines of credit and short-term debt(1) | 33.8 | — | — | — | 33.8 | |||||||||
| Capital leases(1) | 12.8 | 19.4 | 13.4 | 218.3 | 263.9 | |||||||||
| Operating leases | 36.4 | 44.6 | 28.2 | 75.0 | 184.2 | |||||||||
| Royalty advances | 6.7 | 1.1 | 0.2 | — | 8.0 | |||||||||
| Pension and Post-Retirement Plans | 14.4 | 28.1 | 28.3 | 73.2 | 144.0 | |||||||||
| Total | $ | 416.3 | $ | 118.4 | $ | 86.9 | $ | 549.2 | $ | 1,070.8 | ||||
Payments Due by Period Less thanAfterContractual Obligations1 Year1-3 Years4-5 Years5 YearsTotalLong-term debt $ — $ 300.0 $ 14.2 $ 175.0 $ 489.2 Lines of credit and short-term debt 24.1 — — — 24.1 Operating leases 43.1 76.0 23.1 162.7 304.9 Royalty advances 7.9 2.0 — — 9.9 Other obligations 6.9 1.9 — — 8.8 Total $ 82.0 $ 379.9 $ 37.3 $ 337.7 $ 836.9
(1) Includes principal and interest.
Financing
On March 31, 2004, Scholastic Corporation and Scholastic Inc. entered into an unsecured revolving credit agreement with certain banks (the “Credit Agreement”), which replaced a similar loan agreement that was scheduled to expire on August 11, 2004 (the “Loan Agreement”). The Credit Agreement, which expires on March 31, 2009, provides for aggregate borrowings of up to $190.0 million (with a right in certain circumstances to increase borrowings to $250.0 million), including the issuance of up to $10.0 million in letters of credit. Interest under this facility is either at the prime rate or at a rate 0.325% to 0.975% over LIBOR (as defined). There is a facility fee ranging from 0.10% to 0.30% and a utilization fee ranging from 0.05% to 0.25% if borrowings exceed 50% of the total facility. The amounts charged vary based upon the Company’s credit rating. The interest rate, and facility fee and utilization fee (when applicable) as of May 31, 20042006 were 0.55%0.675% over LIBOR, 0.20% and 0.15%0.125%, respectively. The Credit Agreement contains certain financial covenants related to debt and interest coverage ratios (as defined) and limits dividends and other distributions. On May 31, 2004, $12.0 million was outstanding under the Credit Agreement at a weighted average interest rate of 1.7%. There were no borrowings outstanding under the LoanCredit Agreement at May 31, 2003.2006 or May 31, 2005. As a result of the recent downgrades of the Company’s credit rating noted in “Liquidity and Capital Resources” above, the interest
29
rate, facility fee and utilization fee, when applicable, are currently 0.975% over LIBOR, 0.30% and 0.25%, respectively.
Scholastic Corporation and Scholastic Inc. are joint and several borrowers under an unsecured revolving loan agreement with a bank (the “Revolver”). As amended effective April 30, 2004, the Revolver provides for unsecured revolving credit of up to $40.0 million and expires on March 31, 2009. Interest under this facility is either at the prime rate minus 1%, or at a rate 0.375% to 1.025% over LIBOR (as defined). There is a facility fee ranging from 0.10% to 0.30%. The amounts charged vary based upon the Company’s credit rating. The
26
interest rate and facility fee as of May 31, 20042006 were 0.60%0.725% over LIBOR and 0.15%0.20%, respectively. The Revolver contains certain financial covenants related to debt and interest coverage ratios (as defined) and limits dividends and other distributions. At May 31, 2004, $2.2 million was outstanding under the Revolver at a weighted average interest rate of 3.0%. There were no borrowings outstanding under the Revolver at May 31, 2003.
Scholastic Corporation repaid the 7% Notes at maturity on December 15, 2003, in part using borrowings available under the Loan Agreement and the Revolver made possible by the issuance2006 or May 31, 2005. As a result of the 5% Notes.
In February 2002, Scholastic Corporation entered into anrecent downgrades of the Company’s credit rating noted in “Liquidity and Capital Resources” above, the interest rate swap agreement, designated as a fair value hedge as defined under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” whereby the Company received a fixed interest rate payment from,facility fee are currently 1.025% over LIBOR and paid an amount based on a variable interest rate to, the counterparty based on a notional amount, in order to exchange the fixed rate payments on a portion of the Corporation’s $300.0 million in outstanding 5.75% Notes due 2007 issued in January 2002 (“the 5.75% Notes”) for variable rate payments. In accordance with SFAS No. 133, the swap was considered perfectly effective and all changes in fair value were recorded to Other assets and Long-term debt. On May 28, 2003, $50.0 million of the original $100.0 million notional amount was settled and the Company received a payment of $5.4 million from the counterparty. On November 3, 2003, the remaining $50.0 million under the agreement was settled, and the Company received a payment of $3.8 million from the counterparty. The cash received was used to fully reduce the Other asset previously established, and the corresponding credit is being amortized over the remaining term of the 5.75% Notes.0.30%, respectively.
Unsecured lines of credit available in local currencies to certain of Scholastic Corporation’s international subsidiaries were, in the aggregate, equivalent to $62.1$67.9 million at May 31, 2004,2006, as compared to $57.8$61.8 million at May 31, 2003.2005. These lines are used primarily to fund local working capital needs. At May 31, 2004,There were borrowings equivalent to $23.0 million were outstanding under these lines of credit as comparedequivalent to $28.5$33.8 million at May 31, 2003,2006, as compared to $24.7 million at May 31, 2005. These lines of credit are considered short-term in nature. The weighted average interest rates on the outstanding amounts were of 5.5%6.0% and 6.9%5.4% at May 31, 20042006 and 2003,2005, respectively.
The Company’s total debt obligations were $502.4 million at May 31, 20042006, including approximately $294 million of 5.75% Notes, and 2003 were $516.6$501.4 million and $635.9at May 31, 2005. During fiscal 2006, the Company repurchased $6.0 million respectively, primarily due toof its 5.75% Notes on the issuanceopen market. In fiscal 2007 through August 4, 2006, the Company repurchased approximately $35.4 million of the 5%5.75% Notes in April 2003 andon the repayment at maturityopen market. After giving effect to these repurchases, the outstanding 5.75% Notes, net of the 7% Notes in December 2003.premium/discount, totaled approximately $259.5 million. For a complete description of all the Company’s debt obligations, see Note 3 of Notes to Consolidated Financial Statements in Item 8, “Consolidated Financial Statements and Supplementary Data.”
Acquisitions
In the ordinary course of business, the Company explores domestic and international expansion opportunities, including potential niche and strategic acquisitions. As part of this process, the Company engages with interested parties in discussions concerning possible transactions. The Company will continue to evaluate such opportunities and prospects.
On July 1, 2003, the Company acquired certain assets of Troll for $4.0 million in cash and the assumption of certain ordinary course liabilities. On August 8, 2003, the Company acquired the stock of BTBCAT, Inc., which operates the Back to Basics direct-to-home toy catalog business, for $4.8 million in cash.
During fiscal 2002, the Company completed the acquisitions of the stock or assets of the following companies: Troll Book Fairs LLC, a national school-based book fair operator; Tom Snyder Productions, Inc., a developer and publisher of interactive educational software and producer of television programming; Sandvik Publishing Ltd., d/b/a Baby’s First Book Club, a direct marketer of age-appropriate books and toys for young children; Klutz, a publisher and creator of “books plus” products for children; Teacher’s Friend Publications, Inc., a producer and marketer of materials that
27
teachers use to decorate their classrooms; and Nelson B. Heller & Associates, a publisher of business-to-business newsletters. The aggregate purchase price for these acquisitions, net of cash received, was $66.7 million.
N e w A c c o u n t i n g P r o n o u n c e m e n t sNEW ACCOUNTING PRONOUNCEMENTS
In January 2003,December 2004, the Financial Accounting Standards Board (“FASB”(the “FASB”) issued FASB InterpretationSFAS No. 46, “Consolidation of Variable Interest Entities” (“FIN 46”),123R, which requires variable interest entitiescompanies to expense the fair value of all share-based payments as permitted, but not required, under SFAS No. 123. The Company adoped SFAS No. 123R effective June 1, 2006. Retroactive application of the fair value recognition provisions of SFAS No. 123R was permitted, but not required. Alternatively, a company could use the modified prospective transition method for application of SFAS No. 123R. Under this method, compensation expense is recognized for all share-based payments granted, modified or settled after the date of adoption based on their grant-date fair value. For awards granted prior to the adoption date, the compensation expense of any unvested portion is recognized over the remaining requisite service period. The Company is using the modified prospective transition method to adopt SFAS No. 123R. The Company currently estimates that the adoption of SFAS No. 123R will result in additional fiscal 2007 pre-tax compensation expense of approximately $3.0 million to $5.0 million, or approximately $0.05 to $0.08 per diluted share after tax.
In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections – a replacement of APB Opinion No. 20 and FASB Statement No. 3” (“SFAS No.154”). Under the previous
30
guidance, most voluntary changes in accounting principle were required to be consolidated byrecognized as the primary beneficiarycumulative effect of a change in accounting principle within the net income of the entity if certain criteria are met. FIN 46 was effective immediately for all variable interest entities created after January 31, 2003. For variable interest entities created or acquired before February 1, 2003,periods in which the provisionschange is made. SFAS No. 154 requires retrospective application to prior period financial statements of FIN 46 becamea voluntary change in accounting principle, unless it is impracticable to do so. SFAS No. 154 is effective for theaccounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The Company during the fourth quarter of fiscal 2004.has elected to adopt SFAS No.154 effective June 1, 2006. The Company’s adoption of FIN 46 didSFAS No.154 is not expected to have aany material impactimmediate effect on itsthe Company’s consolidated financial position, results of operations orand cash flows.
In May 2004, the FASB issued Staff Position 106-2, “AccountingItem 7A | Quantitative and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003” (“FSP 106-2”). FSP 106-2 applies only to a single-employer defined benefit post-retirement health care plan for which an employer has concluded that prescription drug benefits available under the plan are “actuarially equivalent” to the prescription drug benefit now provided under Medicare pursuant to the Medicare Prescription Drug, Improvement and Modernization Act of 2003 and therefore qualify for a federal subsidy introduced by that Act. Although the Company is not required to apply the guidance in FSP 106-2 until its fiscal quarter ending November 30, 2004, it has determined that its plan qualifies for such subsidy and has elected to begin accounting for the effects of the subsidy during its fiscal quarter ended May 31, 2004.Qualitative Disclosures about Market Risk
FACTORS THAT MAY AFFECT FUTURE RESULTS AND FINANCIAL CONDITION
This Annual Report on Form 10-K contains forward-looking statements. 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 futureconducts its business prospects, revenues, operating margins, working capital, liquidity, capital needs, interest costsin various foreign countries, and income,as such, its cash flows and earnings are subject to certain risks and uncertainties that could cause actual results to differ materiallyfluctuations from those indicatedchanges in the forward-looking statements, due to factors including the following and other risks and factors identified from time to time in the Company’s filings with the SEC:
28
The foregoing list of factors should not be construed as exhaustive or as any admission regarding the adequacy of disclosures made by the Company prior to the date hereof. 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.
The Company has operations in various foreign countries. In the normal course of business, these operations are exposed to fluctuations in currency values.exchange rates. Management believes that the impact of currency fluctuations does not represent a significant risk into the contextCompany given the size and scope of the Company’sits current international operations. InThe Company manages its exposures to this market risk through internally established procedures and, when deemed appropriate, through the normal courseuse of business, the Company’s operations outside the United States periodicallyshort-term forward exchange contracts. All foreign exchange hedging transactions are supported by an identifiable commitment or a forecasted transaction. The Company does not enter into short-term forward contracts (generally not exceeding $20.0 million) to match selected purchases not denominated in their respective local currencies.derivative transactions or use other financial instruments for trading or speculative purposes.
Market risks relating to the Company’s operations result primarily from changes in interest rates, which are managed by balancingthrough the mix of variable-rate versus fixed-rate borrowings. Additionally, financial instruments, including swap agreements, have been used to manage interest rate exposures. Approximately 7% of the Company’s debt at May 31, 20042006 bore interest at a variable rate and was sensitive to changes in interest rates, compared to approximately 12%5% at May 31, 2003.2005. The Company is subject to the risk that market interest rates and its cost of borrowing will increase and thereby increase the interest charged under its variable-rate debt.debt, as well as the risk that variable-rate borrowings will represent a larger portion of total debt in the future.
Additional information relating to the Company’s outstanding financial instruments is included in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
| ($ amounts in millions) | ||||||||||||||||||||||||||||||||||
| Fair Value | ||||||||||||||||||||||||||||||||||
| as of | ||||||||||||||||||||||||||||||||||
| May 31, | ||||||||||||||||||||||||||||||||||
| | 2006 | |||||||||||||||||||||||||||||||||
| Debt Obligations | ||||||||||||||||||||||||||||||||||
| Lines of credit | $ | 33.8 | $ | — | $ | — | $ | — | $ | — | $ | — | $ | 33.8 | $ | 33.8 | ||||||||||||||||||
| Average interest rate | 6.0 | % | ||||||||||||||||||||||||||||||||
| Long-term debt including | ||||||||||||||||||||||||||||||||||
| current portion: | ||||||||||||||||||||||||||||||||||
| Fixed-rate debt | $ | 294.1 | $ | — | $ | — | $ | — | $ | — | $ | 175.0 | $ | 469.1 | $ | 444.1 | ||||||||||||||||||
| Average interest rate | 5.75 | % | 5.0 | % | ||||||||||||||||||||||||||||||
| (1) At May 31, 2006, no borrowings were outstanding under the Credit Agreement or the Revolver, which have credit lines totaling $230.0 and expire in fiscal 2009. | ||||||||||||||||||||||||||||||||||
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($ amounts in millions) Fair Value Fiscal Year Maturity as of May 31, 2005 2006 2007 2008 2009 Thereafter Total 2004 Lines of credit $ 23.0 $ — $ — $ — $ — $ — $ 23.0 $ 23.0 Average interest rate 5.48 % Long-term debt including current portion: Fixed-rate debt $ 1.1 $ — $ 300.0 $ — $ 175.0 $ 476.1 $ 477.7 Average interest rate 7.10 % 5.75 % 5.00 % Variable-rate debt $ — $ — $ — $ — $ 14.2 (1) $ — $ 14.2 $ 14.2 Average interest rate 1.93 %
(1)Represents amounts drawn on the Credit Agreement and Revolver with credit lines totaling $230.0, which expire in fiscal 2009.
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Item 8 | Consolidated Financial Statements and Supplementary Data
| Page(s) | |||
| Consolidated Statements of Income for the years ended May 31, 2006, 2005 and 2004 | 33 | ||
| Consolidated Balance Sheets at May 31, | 34-35 | ||
| Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive | |||
| Income for the years ended May 31, 2006, 2005 and 2004 | 36-37 | ||
| Consolidated Statements of Cash Flows for the years ended May 31, 2006, 2005 and 2004 | 38 | ||
| Notes to Consolidated Financial Statements | 39-59 | ||
| 60-61 | |||
| Supplementary Financial Information | 62 | ||
| The following consolidated financial statement schedule for the years | |||
| ended May 31, 2006, 2005 and 2004 | |||
| Schedule II | S-2 |
All other schedules have been omitted since the required information is not present or is not present in amounts sufficient to require submission of the schedule, or because the information required is included in the Consolidated Financial Statements or the Notes thereto.
3132
| Consolidated Statements of Income | ||||||||
| (Amounts in millions, except per share data) | ||||||||
Years ended May 31, | ||||||||
| 2006 | 2005 | 2004 | ||||||
| Revenues | $ | 2,283.8 | $ | 2,079.9 | $ | 2,233.8 | ||
| Operating costs and expenses: | ||||||||
| Cost of goods sold (exclusive of depreciation) | 1,099.9 | 979.0 | 1,086.8 | |||||
| Cost of goods sold – Reference sets | 3.2 | — | — | |||||
| Selling, general and administrative expenses | 916.5 | 840.7 | 870.1 | |||||
| Bad debt expense | 56.2 | 62.2 | 90.3 | |||||
| Bad debt expense – Educational Publishing | 2.9 | — | — | |||||
| Other operating costs: | ||||||||
| Depreciation and amortization | 65.8 | 63.1 | 62.1 | |||||
| Special severance charges | — | — | 3.3 | |||||
| Total operating costs and expenses | 2,144.5 | 1,945.0 | 2,112.6 | |||||
| Operating income | 139.3 | 134.9 | 121.2 | |||||
| Other income | — | — | 8.0 | |||||
| Interest income | 3.5 | 1.0 | 0.4 | |||||
| Interest expense | 35.2 | 36.2 | 40.0 | |||||
| Earnings before income taxes | 107.6 | 99.7 | 89.6 | |||||
| Provision for income taxes | 39.0 | 35.4 | 31.8 | |||||
| Net income | $ | 68.6 | $ | 64.3 | $ | 57.8 | ||
| Earnings per Share of Class A Stock and Common Stock: | ||||||||
| Net income: | ||||||||
| Basic | $ | 1.65 | $ | 1.61 | $ | 1.47 | ||
| Diluted | $ | 1.63 | $ | 1.58 | $ | 1.44 | ||
| See accompanying notes | ||||||||
Consolidated Statements of Income
33
| Consolidated Balance Sheets | |||||||
| ASSETS | 2006 | 2005 | |||||
| Current Assets: | |||||||
| Cash and cash equivalents | $ | 205.3 | $ | 110.6 | |||
| Accounts receivable (less allowance for doubtful accounts of $49.5 at May 31, 2006 | |||||||
| and $43.2 at May 31, 2005) | 266.8 | 269.6 | |||||
| Inventories | 431.5 | 404.9 | |||||
| Deferred promotion costs | 49.8 | 38.6 | |||||
| Deferred income taxes | 73.1 | 71.7 | |||||
| Prepaid expenses and other current assets | 52.4 | 43.9 | |||||
| Total current assets | 1,078.9 | 939.3 | |||||
| Property, Plant and Equipment: | |||||||
| Land | 13.3 | 13.3 | |||||
| Buildings | 121.4 | 120.2 | |||||
| Furniture, fixtures and equipment | 460.4 | 414.1 | |||||
| Leasehold improvements | 173.1 | 161.9 | |||||
| 768.2 | 709.5 | ||||||
| Less accumulated depreciation and amortization | (371.2 | ) | (316.8 | ) | |||
| Net property, plant and equipment | 397.0 | 392.7 | |||||
| Other Assets and Deferred Charges: | |||||||
| Prepublication costs | 115.9 | 120.2 | |||||
| Installment receivables (less allowance for doubtful accounts of $3.3 at May 31, 2006 | |||||||
| and $4.1 at May 31, 2005) | 11.2 | 10.6 | |||||
| Royalty advances | 46.0 | 54.4 | |||||
| Production costs | 5.9 | 9.7 | |||||
| Goodwill | 253.1 | 254.2 | |||||
| Other intangibles | 78.4 | 78.7 | |||||
| Noncurrent deferred income taxes | 4.5 | 11.4 | |||||
| Other | 61.3 | 60.2 | |||||
| Total other assets and deferred charges | 576.3 | 599.4 | |||||
| Total assets | $ | 2,052.2 | $ | 1,931.4 | |||
| See accompanying notes | |||||||
(Amounts in millions, except per share data) Years ended May 31, 2004 2003 2002 Revenues $ 2,233.8 $ 1,958.3 $ 1,917.0 Operating costs and expenses: Cost of goods sold (exclusive of depreciation) 1,080.0 882.1 852.1 Cost of goods sold – Continuity charges 6.8 — — Selling, general and administrative expenses 869.7 826.3 771.7 Selling, general and administrative expenses – Continuity charges 15.2 — — Bad debt expense 88.3 72.3 68.7 Bad debt expense – Continuity charges 2.0 — — Other operating costs: Depreciation 53.2 45.6 35.6 Special severance charges 3.3 10.9 — Goodwill and other intangibles amortization 0.3 0.5 1.0 Litigation and other charges — 1.9 1.2 Total operating costs and expenses 2,118.8 1,839.6 1,730.3 Operating income 115.0 118.7 186.7 Other income (expense) 8.0 2.9 (2.0 ) Interest expense, net 32.5 31.5 31.4 Earnings before income taxes and Cumulative effect of accounting change 90.5 90.1 153.3 Provision for income taxes 32.1 31.5 54.6 Earnings before Cumulative effect of accounting change 58.4 58.6 98.7 Cumulative effect of accounting change (net of income taxes of $2.9) — — (5.2 ) Net income $ 58.4 $ 58.6 $ 93.5 Earnings per Share of Class A and Common Stock: Earnings before Cumulative effect of accounting change: Basic $ 1.48 $ 1.50 $ 2.69 Diluted $ 1.46 $ 1.46 $ 2.51 Cumulative effect of accounting change (net of income taxes): Basic $ — $ — $ (0.14 ) Diluted $ — $ — $ (0.13 ) Net income: Basic $ 1.48 $ 1.50 $ 2.55 Diluted $ 1.46 $ 1.46 $ 2.38
| (Amounts in millions, except share data) | |||||||
| Balances at May 31, | |||||||
| LIABILITIES AND STOCKHOLDERS’ EQUITY | 2006 | 2005 | |||||
| Current Liabilities: | |||||||
| Current portion of long-term debt, lines of credit and short-term debt | $ | 329.2 | $ | 24.9 | |||
| Capital lease obligations | 7.5 | 11.0 | |||||
| Accounts payable | 141.7 | 141.4 | |||||
| Accrued royalties | 36.6 | 40.1 | |||||
| Deferred revenue | 19.3 | 22.9 | |||||
| Other accrued expenses | 154.7 | 134.5 | |||||
| Total current liabilities | 689.0 | 374.8 | |||||
| Noncurrent Liabilities: | |||||||
| Long-term debt | 173.2 | 476.5 | |||||
| Capital lease obligations | 61.4 | 63.4 | |||||
| Other noncurrent liabilities | 79.3 | 79.6 | |||||
| Total noncurrent liabilities | 313.9 | 619.5 | |||||
| Commitments and Contingencies | — | — | |||||
| Stockholders’ Equity: | |||||||
| Preferred Stock, $1.00 par value Authorized – 2,000,000 shares; Issued – None | — | — | |||||
| Class A Stock, $.01 par value Authorized – 2,500,000 shares; Issued and | |||||||
| outstanding – 1,656,200 shares | 0.0 | 0.0 | |||||
| Common Stock, $.01 par value Authorized – 70,000,000 shares; Issued and | |||||||
| outstanding – 40,282,246 shares (39,076,544 shares at May 31, 2005) | 0.4 | 0.4 | |||||
| Additional paid-in capital | 458.7 | 424.0 | |||||
| Deferred compensation | (1.6 | ) | (2.1 | ) | |||
| Accumulated other comprehensive loss: | |||||||
| Foreign currency translation adjustment | (1.4 | ) | (2.2 | ) | |||
| Minimum pension liability adjustment | (18.7 | ) | (26.3 | ) | |||
| Retained earnings | 611.9 | 543.3 | |||||
| Total stockholders’ equity | 1,049.3 | 937.1 | |||||
| Total liabilities and stockholders’ equity | $ | 2,052.2 | $ | 1,931.4 | |||
32
Consolidated Balance Sheets
ASSETS20042003 Current Assets: Cash and cash equivalents $ 17.8 $ 58.6 Accounts receivable (less allowance for doubtful accounts of $63.2 at May 31, 2004 and $55.6 at May 31, 2003) 265.7 252.3 Inventories 402.6 382.6 Deferred promotion costs 40.6 52.8 Deferred income taxes 73.4 74.6 Prepaid and other current assets 42.6 47.3 Total current assets 842.7868.2 Property, Plant and Equipment: Land 10.7 10.0 Buildings 80.9 77.2 Furniture, fixtures and equipment 326.0 285.5 Leasehold improvements 159.8 158.0 577.4 530.7 Less accumulated depreciation and amortization (242.8 ) (189.0 ) Net property, plant and equipment 334.6341.7 Other Assets and Deferred Charges: Prepublication costs 116.7 122.0 Installment receivables (less allowance for doubtful accounts of $5.1 at May 31, 2004 and $4.9 at May 31, 2003) 13.1 13.9 Royalty advances 47.8 49.8 Production costs 5.5 11.0 Goodwill 250.3 246.0 Other intangibles 78.9 74.2 Noncurrent deferred income taxes 5.1 7.7 Other 61.1 66.5 Total other assets and deferred charges 578.5591.1 Total assets $ 1,755.8$ 1,801.0
See accompanying notes
33
(Amounts in millions, except share data) Balances at May 31, LIABILITIES AND STOCKHOLDERS’ EQUITY 2004 2003 Current Liabilities: Lines of credit and short-term debt $ 24.1 $ 153.7 Accounts payable 150.1 139.4 Accrued royalties 30.7 32.3 Deferred revenue 22.7 18.8 Other accrued expenses 129.8 133.5 Total current liabilities 357.4 477.7 Noncurrent Liabilities: Long-term debt 492.5 482.2 Other noncurrent liabilities 49.9 68.5 Total noncurrent liabilities 542.4 550.7 Commitments and Contingencies — — Stockholders’ Equity: Preferred Stock, $1.00 par value; Authorized – 2,000,000 shares; Issued-None — — Class A Stock, $.01 par value; Authorized – 2,500,000 shares; Issued and
outstanding – 1,656,200 shares 0.0 0.0 Common Stock, $.01 par value; Authorized – 70,000,000 shares; Issued and
outstanding – 37,930,986 shares (37,608,333 shares at May 31, 2003) 0.4 0.4 Additional paid-in capital 388.1 379.9 Deferred compensation (0.6 ) (1.1 ) Accumulated other comprehensive loss: Foreign currency translation adjustment (4.5 ) (9.8 ) Minimum pension liability adjustment (17.0 ) (28.0 ) Retained earnings 489.6 431.2 Total stockholders’ equity 856.0 772.6 Total liabilities and stockholders’ equity $ 1,755.8 $ 1,801.0
34
Consolidated Statements of Changes in Stockholders’
Equity and Comprehensive Income Additional
Paid-in
Capital Balance at May 31, 2003 1,656,200 $ 0.0 37,608,333 $ 0.4 $ 379.9 Comprehensive income: Net income Other comprehensive income, net: Foreign currency translation adjustment Minimum pension liability adjustment, net of tax of $6.2 Total other comprehensive income Total comprehensive income Deferred compensation, net of amortization 4,102 0.0 0.0 Proceeds from issuance of common stock pursuant to employee stock-based plans 318,551 0.0 7.6 Tax benefit realized from employee stock-based plans 0.6 Balance at May 31, 2004 1,656,200 0.0 37,930,986 0.4 388.1 Comprehensive income: Net income Other comprehensive income (loss), net: Foreign currency translation adjustment Minimum pension liability adjustment, net of tax of $5.3 Total other comprehensive loss Total comprehensive income Deferred compensation, net of amortization 8,993 0.0 2.2 Proceeds from issuance of common stock pursuant to employee stock-based plans 1,136,565 0.0 29.9 Tax benefit realized from employee stock-based plans 3.8 Balance at May 31, 2005 1,656,200 0.0 39,076,544 0.4 424.0 Comprehensive income: Net income Other comprehensive income, net: Foreign currency translation adjustment Minimum pension liability adjustment, net of tax of $4.4 Total other comprehensive income Total comprehensive income Deferred compensation, net of amortization 26,690 0.0 0.3 Proceeds from issuance of common stock pursuant to employee stock-based plans 1,179,012 0.0 28.7 Tax benefit realized from employee stock-based plans 5.7 Balance at May 31, 2006 1,656,200 $ 0.0 40,282,246 $ 0.4 $ 458.7 See accompanying notes
| Balance at May 31, 2001 | 1,656,200 | $ 0.0 | 33,632,047 | $ 0.3 | $ 233.7 | ||||||
| Comprehensive income: | |||||||||||
| Net income | |||||||||||
| Other comprehensive loss, net: | |||||||||||
| Foreign currency translation adjustment | |||||||||||
| Minimum pension liability adjustment | |||||||||||
| Total other comprehensive loss | |||||||||||
| Total comprehensive income | |||||||||||
| Deferred compensation, net of amortization | 0.4 | ||||||||||
| Proceeds from issuance of common stock | |||||||||||
| pursuant to employee stock plans | 927,374 | 0.1 | 19.9 | ||||||||
| Tax benefit realized from stock option transactions | 8.8 | ||||||||||
| Conversion of Convertible Subordinated | |||||||||||
| Debentures and related costs | 2,857,801 | 0.0 | 110.9 | ||||||||
| Balance at May 31, 2002 | 1,656,200 | 0.0 | 37,417,222 | 0.4 | 373.7 | ||||||
| Comprehensive income: | |||||||||||
| Net income | |||||||||||
| Other comprehensive income (loss), net: | |||||||||||
| Foreign currency translation adjustment | |||||||||||
| Minimum pension liability adjustment | |||||||||||
| Total other comprehensive loss | |||||||||||
| Total comprehensive income | |||||||||||
| Deferred compensation, net of amortization | 1.2 | ||||||||||
| Proceeds from issuance of common stock pursuant to employee stock plans | 191,111 | 0.0 | 4.7 | ||||||||
| Tax benefit realized from stock option transactions | 0.3 | ||||||||||
| Balance at May 31, 2003 | 1,656,200 | 0.0 | 37,608,333 | 0.4 | 379.9 | ||||||
| Comprehensive income: | |||||||||||
| Net income | |||||||||||
| Other comprehensive income, net: | |||||||||||
| Foreign currency translation adjustment | |||||||||||
| Minimum pension liability adjustment | |||||||||||
| Total other comprehensive income | |||||||||||
| Total comprehensive income | |||||||||||
| Deferred compensation, net of amortization | 4,102 | 0.0 | 0.0 | ||||||||
| Proceeds from issuance of common stock pursuant to employee stock plans | 318,551 | 0.0 | 7.6 | ||||||||
| Tax benefit realized from stock option transactions | 0.6 | ||||||||||
| Balance at May 31, 2004 | 1,656,200 | $ 0.0 | 37,930,986 | $ 0.4 | $ 388.1 | ||||||
Earnings | ||||||||||||||||||
| Balance at May 31, 2003 | $ | (1.1 | ) | $ | (9.8 | ) | $ | (28.0 | ) | $ | 421.2 | $ | 762.6 | |||||
| Comprehensive income: | ||||||||||||||||||
| Net income | 57.8 | 57.8 | ||||||||||||||||
| Other comprehensive income, net: | ||||||||||||||||||
| Foreign currency translation adjustment | 5.3 | 5.3 | ||||||||||||||||
| Minimum pension liability adjustment, | ||||||||||||||||||
| net of tax of $6.2 | 11.0 | 11.0 | ||||||||||||||||
| Total other comprehensive income | 16.3 | |||||||||||||||||
| Total comprehensive income | 74.1 | |||||||||||||||||
| Deferred compensation, net of amortization | 0.5 | 0.5 | ||||||||||||||||
| Proceeds from issuance of common stock | ||||||||||||||||||
| pursuant to employee stock-based plans | 7.6 | |||||||||||||||||
| Tax benefit realized from employee stock-based plans | 0.6 | |||||||||||||||||
| Balance at May 31, 2004 | (0.6 | ) | (4.5 | ) | (17.0 | ) | 479.0 | 845.4 | ||||||||||
| Comprehensive income: | ||||||||||||||||||
| Net income | 64.3 | 64.3 | ||||||||||||||||
| Other comprehensive income (loss), net: | ||||||||||||||||||
| Foreign currency translation adjustment | 2.3 | 2.3 | ||||||||||||||||
| Minimum pension liability adjustment, | ||||||||||||||||||
| net of tax of $5.3 | (9.3 | ) | (9.3 | ) | ||||||||||||||
| Total other comprehensive loss | (7.0 | ) | ||||||||||||||||
| Total comprehensive income | 57.3 | |||||||||||||||||
| Deferred compensation, net of amortization | (1.5 | ) | 0.7 | |||||||||||||||
| Proceeds from issuance of common stock | ||||||||||||||||||
| pursuant to employee stock-based plans | 29.9 | |||||||||||||||||
| Tax benefit realized from employee stock-based plans | 3.8 | |||||||||||||||||
| Balance at May 31, 2005 | (2.1 | ) | (2.2 | ) | (26.3 | ) | 543.3 | 937.1 | ||||||||||
| Comprehensive income: | ||||||||||||||||||
| Net income | 68.6 | 68.6 | ||||||||||||||||
| Other comprehensive income, net: | ||||||||||||||||||
| Foreign currency translation adjustment | 0.8 | 0.8 | ||||||||||||||||
| Minimum pension liability adjustment, | ||||||||||||||||||
| net of tax of $4.4 | 7.6 | 7.6 | ||||||||||||||||
| Total other comprehensive income | 8.4 | |||||||||||||||||
| Total comprehensive income | 77.0 | |||||||||||||||||
| Deferred compensation, net of amortization | 0.5 | 0.8 | ||||||||||||||||
| Proceeds from issuance of common stock | ||||||||||||||||||
| pursuant to employee stock-based plans | 28.7 | |||||||||||||||||
| Tax benefit realized from employee stock-based plans | 5.7 | |||||||||||||||||
| Balance at May 31, 2006 | $ | (1.6 | ) | $ | (1.4 | ) | $ | (18.7 | ) | $ | 611.9 | $ | 1,049.3 | |||||
See accompanying notes
| Consolidated Statements of Cash Flows | |||||||||||
| (Amounts in millions) | |||||||||||
| Years ended May 31, | |||||||||||
| 2006 | 2005 | 2004 | |||||||||
| Cash flows provided by operating activities: | |||||||||||
| Net income | $ | 68.6 | $ | 64.3 | $ | 57.8 | |||||
| Adjustments to reconcile net income to net cash provided | |||||||||||
| by operating activities: | |||||||||||
| Provision for losses on accounts receivable | 59.1 | 62.2 | 90.3 | ||||||||
| Amortization of prepublication and production costs | 67.8 | 67.7 | 79.1 | ||||||||
| Depreciation and amortization | 65.8 | 63.1 | 62.1 | ||||||||
| Royalty advances expensed | 36.6 | 32.8 | 20.8 | ||||||||
| Deferred income taxes | 1.8 | 20.4 | 2.6 | ||||||||
| Non-cash interest expense | 1.5 | 1.3 | 1.2 | ||||||||
| Changes in assets and liabilities: | |||||||||||
| Accounts receivable | (53.7 | ) | (61.6 | ) | (99.3 | ) | |||||
| Inventories | (21.5 | ) | 3.2 | (14.7 | ) | ||||||
| Prepaid expenses and other current assets | (7.2 | ) | (0.3 | ) | 7.0 | ||||||
| Deferred promotion costs | (9.8 | ) | 2.7 | 12.6 | |||||||
| Accounts payable and other accrued expenses | 31.6 | (12.8 | ) | 8.3 | |||||||
| Accrued royalties | (3.7 | ) | 1.6 | 5.9 | |||||||
| Deferred revenue | (4.4 | ) | (1.0 | ) | 2.8 | ||||||
| Tax benefit realized from employee stock-based plans | 5.7 | 3.8 | 0.6 | ||||||||
| Other, net | (2.4 | ) | (0.8 | ) | (15.8 | ) | |||||
| Total adjustments | 167.2 | 182.3 | 163.5 | ||||||||
| Net cash provided by operating activities | 235.8 | 246.6 | 221.3 | ||||||||
| Cash flows used in investing activities: | |||||||||||
| Prepublication expenditures | (49.6 | ) | (58.0 | ) | (53.2 | ) | |||||
| Additions to property, plant and equipment | (66.1 | ) | (49.8 | ) | (43.4 | ) | |||||
| Royalty advances | (28.1 | ) | (30.9 | ) | (26.1 | ) | |||||
| Production expenditures | (12.9 | ) | (18.0 | ) | (15.6 | ) | |||||
| Acquisition-related payments | (3.3 | ) | (3.7 | ) | (8.8 | ) | |||||
| Other | (1.2 | ) | — | (0.5 | ) | ||||||
| Net cash used in investing activities | (161.2 | ) | (160.4 | ) | (147.6 | ) | |||||
| Cash flows provided by (used in) financing activities: | |||||||||||
| Borrowings under Loan Agreement, Revolver and Credit Agreement | 170.3 | 342.4 | 599.4 | ||||||||
| Repayments of Loan Agreement, Revolver and Credit Agreement | (170.3 | ) | (356.6 | ) | (585.2 | ) | |||||
| Repurchase of 5.75% Notes | (6.0 | ) | — | — | |||||||
| Repayment of 7% Notes | — | — | (125.0 | ) | |||||||
| Borrowings under lines of credit | 248.2 | 250.6 | 294.1 | ||||||||
| Repayments of lines of credit | (240.8 | ) | (249.3 | ) | (300.7 | ) | |||||
| Repayment of capital lease obligations | (10.3 | ) | (10.5 | ) | (9.0 | ) | |||||
| Proceeds pursuant to employee stock-based plans | 28.7 | 29.9 | 7.6 | ||||||||
| Other | — | — | 3.9 | ||||||||
| Net cash provided by (used in) financing activities | 19.8 | 6.5 | (114.9 | ) | |||||||
| Effect of exchange rate changes on cash | 0.3 | 0.1 | 0.4 | ||||||||
| Net increase (decrease) in cash and cash equivalents | 94.7 | 92.8 | (40.8 | ) | |||||||
| Cash and cash equivalents at beginning of year | 110.6 | 17.8 | 58.6 | ||||||||
| Cash and cash equivalents at end of year | $ | 205.3 | $ | 110.6 | $ | 17.8 | |||||
| Supplemental information: | |||||||||||
| Income taxes paid | $ | 35.9 | $ | 10.1 | $ | 24.5 | |||||
| Interest paid | 27.2 | 30.0 | 39.0 | ||||||||
| Non-cash investing and financing activities: Capital leases | 3.4 | 9.5 | 15.1 | ||||||||
| See accompanying notes | |||||||||||
35
(Amounts in millions, except share data) Years ended May 31, 2004, 2003 and 2002 Balance at May 31, 2001 $ (0.2) $ (12.8) $ (3.6) $ 279.1 (55,319) $ (2.8) $ 493.7 Comprehensive income: Net income 93.5 93.5 Other comprehensive loss, net: Foreign currency translation adjustment (0.7) (0.7) Minimum pension liability adjustment (10.3) (10.3) Total other comprehensive loss (11.0) Total comprehensive income 82.5 Deferred compensation, net of amortization (0.2) 0.2 Proceeds from issuance of common stock pursuant to employee stock plans 55,319 2.8 22.8 Tax benefit realized from stock option transactions 8.8 Conversion of Convertible Subordinated Debentures and related costs 110.9 Balance at May 31, 2002 (0.4) (13.5) (13.9) 372.6 — — 718.9 Comprehensive income: Net income 58.6 58.6 Other comprehensive income (loss), net: Foreign currency translation adjustment 3.7 3.7 Minimum pension liability adjustment (14.1) (14.1) Total other comprehensive loss (10.4) Total comprehensive income 48.2 Deferred compensation, net of amortization (0.7) 0.5 Proceeds from issuance of common stock pursuant to
employee stock plans 4.7 Tax benefit realized from stock option transactions 0.3 Balance at May 31, 2003 (1.1) (9.8) (28.0) 431.2 — — 772.6 Comprehensive income: Net income 58.4 58.4 Other comprehensive income, net: Foreign currency translation adjustment 5.3 5.3 Minimum pension liability adjustment 11.0 11.0 Total other comprehensive income 16.3 Total comprehensive income 74.7 Deferred compensation, net of amortization 0.5 0.5 Proceeds from issuance of common stock pursuant to
employee stock plans 7.6 Tax benefit realized from stock option transactions 0.6 Balance at May 31, 2004 $ (0.6) $ (4.5) $ (17.0) $ 489.6 — $ — $ 856.0
36
Consolidated Statements of Cash Flows (Amounts in millions) Years ended May 31, 2004 2003 2002 Cash flows provided by operating activities: Net income $ 58.4 $ 58.6 $ 93.5 Adjustments to reconcile net income to net cash provided by operating activities: Amortization of prepublication and production costs 79.1 61.0 50.2 Depreciation and amortization 53.5 46.1 36.6 Royalty advances expensed 28.5 31.6 26.6 Deferred income taxes 3.0 12.3 18.0 Non-cash portion of Cumulative effect of accounting change — — 8.1 Changes in assets and liabilities: Accounts receivable, net (9.0) (17.9) (14.1) Inventories (14.7) (16.7) (7.3) Prepaid and other current assets 7.0 12.3 5.5 Deferred promotion costs 12.6 (7.5) (0.5) Accounts payable and other accrued expenses 8.3 21.5 (42.5) Accrued royalties and deferred revenue 1.0 (4.1) (6.0) Tax benefit realized from stock option transactions 0.6 0.3 8.8 Other, net (16.0) (18.3) (12.3) Total adjustments 153.9 120.6 71.1 Net cash provided by operating activities 212.3 179.2 164.6 Cash flows used in investing activities: Prepublication expenditures (53.2) (55.7) (53.5) Additions to property, plant and equipment (43.4) (83.9) (78.4) Royalty advances (26.1) (30.3) (31.7) Equity investment and related loan — (23.3) — Production expenditures (15.6) (15.5) (13.0) Acquisition-related payments (8.8) (10.2) (66.7) Proceeds from sale of investment — 5.2 — Other (0.5) (0.3) 4.8 Net cash used in investing activities (147.6) (214.0) (238.5) Cash flows (used in) provided by financing activities: Borrowings under Loan Agreement, Revolver and Credit Facility 599.4 521.1 835.2 Repayments of Loan Agreement, Revolver and Credit Facility (585.2) (571.1) (785.2) Borrowings under Grolier Facility — 138.0 — Repayments of Grolier Facility — (188.0) (300.0) Repayment of 7% Notes (125.0) — — Proceeds received from issuance of 5.75% Notes, net of related costs — — 296.7 Proceeds received from issuance of 5% Notes, net of related costs — 171.3 — Borrowings under lines of credit 294.1 184.7 151.8 Repayments of lines of credit (300.7) (183.7) (150.7) Proceeds pursuant to employee stock plans 7.6 5.1 22.8 Other 3.9 5.4 0.2 Net cash (used in) provided by financing activities (105.9) 82.8 70.8 Effect of exchange rate changes on cash 0.4 (0.1) 0.0 Net (decrease) increase in cash and cash equivalents (40.8) 47.9 (3.1) Cash and cash equivalents at beginning of year 58.6 10.7 13.8 Cash and cash equivalents at end of year $ 17.8 $ 58.6 $ 10.7 Supplemental information: Income taxes paid $ 24.5 $ 14.6 $ 27.5 Interest paid $ 39.0 $ 32.5 $ 28.0
See accompanying notes
37
Notes to Consolidated Financial Statements
(Amounts in millions, except share and per share data)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of consolidation
The consolidated financial statements include the accounts of Scholastic Corporation (the “Corporation”) and all wholly-owned and majority-owned subsidiaries (collectively “Scholastic” or the “Company”). All significant intercompany transactions are eliminated.eliminated in consolidation.
Use of estimates
The Company’s consolidated financial statements 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 affect the amounts reported in the consolidated financial statements and accompanying notes. The Company bases its estimates on historical experience, current business factors, 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 and installment receivables; sales returns; amortization periods; pension and other post-retirement obligations; and recoverability of inventories, deferred promotion costs, deferred income taxes and tax reserves, prepublication costs, royalty advances, goodwill and other intangibles.
Revenue recognition
The Company’s revenue recognition policies for its principal businesses are as follows:
School-Based Book Clubs– Revenue from school-based book clubs is recognized upon shipment of the products.
School-Based Book Fairs– Revenue from school-based book fairs, which are generally a week in duration, is recognized ratably as each book fair occurs.
Continuity Programs– The Company operates continuity programs whereby customers generally place a singlean order andto receive multiple shipments of children’s books and other products over a period of time. Revenue from continuity programs is recognized at the time of shipment or, in applicable cases, upon customer acceptance. Reserves for estimated returns are established at the time of sale and recorded as a reduction to revenue. Actual returns are charged to the reserve as received. The calculation of the reserve for estimated returns is based on historical return rates and sales patterns.
Trade– Revenue from the sale of children’s books for distribution in the retail channel is primarily recognized when title transfers to the customer, which generally is recognized at the time of shipment, which generallyor when the product is when title transferson sale and available to the customer.public. A reserve for estimated returns is established at the time of sale and recorded as a reduction to revenue. Actual returns are charged to the reserve as received. The calculation of the reserve for estimated returns is based on historical return rates and sales patterns.
Educational Publishing– For shipments to schools, revenue is recognized on passage of title, which generally occurs upon receipt by the customer. Shipments to depositories are on consignment. Revenue is recognized based on actual shipments from the depositories to the schools. For certain software-based products, the Company offers new customers installation and training. In such cases, revenue is recognized when installation and training are complete.
Toy Catalog– Revenue from the sale of children’s toys to the home through catalogs is recognized at the time of shipment, which is generally when title transfers to the customer.customer, which generally is at the time of shipment. A reserve for estimated returns is established at the time of sale and
38
recorded as a
39
reduction to revenue. Actual returns are charged to the reserve as received. The calculation of the reserve for estimated returns is based on historical return rates and sales patterns.
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 recorded in accordance with royalty agreements at the time the licensed materials are available to the licensee and collections are reasonably assured.
Magazines– Revenue is deferred and recognized ratably over the subscription period, as the magazines are delivered.
MagazineAdvertising– Revenue is recognized when the magazine is on sale and available to the subscribers.
Scholastic In-School Marketing– Revenue is recognized when the Company has satisfied its obligations under the program and the customer has acknowledged acceptance of the product or service.
Cash equivalents
Cash equivalents consist of short-term investments with original maturities of less than three months.months or less.
Accounts receivable
Accounts receivable are recorded net of allowances for doubtful accounts and reserves for returns. In the normal course of business, the Company extends credit to customers that satisfy predefined credit criteria. The Company is required to estimate the collectability of its receivables. Reserves for returns are based on historical return rates and sales patterns. Allowances for doubtful accounts are established through the evaluation of accounts receivable agings and prior collection experience to estimate the ultimate collectioncollectability of these receivables.
Inventories
Inventories
Inventories, consisting principally of books, are stated at the lower of cost, using the first-in, first-out method, or market. The Company records a reserve for excess and obsolete inventory based primarily upon a calculation of forecasted demand utilizingusing the historical usage rates and sales patterns of its products.
Deferred promotion costs
Deferred promotion costs represent direct mail, internet and telemarketing promotion costs incurred to acquire customers in the Company’s continuity and magazine businesses. Promotional costs are deferred when incurred and amortized in the proportion that current revenues bear to estimated total revenues. The Company regularly evaluates the operating performance of the promotions over their life cycle based on historical and forecasted demand and adjusts the carrying value accordingly. AllExcept as discussed above, all other advertising costs are expensed as incurred.
Property, plant and equipment
Property, plant and equipment are carried at cost. Depreciation and amortization are recorded on a straight-line basis. Buildings have an estimated useful life, for purposes of depreciation, of forty years. Furniture, fixtures and equipment are depreciated over periods not exceeding ten years. Leasehold improvements are amortized over the life of the lease or the life of the assets, whichever is shorter. Interest is capitalized on major construction projects based on the outstanding construction-in-progress balance for the period and the average borrowing rate during the period.
Leases
Lease agreements are evaluated to determine whether they are capital or operating leases in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 13, “Accounting For Leases,” as amended (“SFAS No. 13”). When substantially all of the risks and benefits of property ownership have been transferred to the Company, as determined by the test criteria in SFAS No. 13, the lease then qualifies as a capital lease.
Capital leases are capitalized at the lower of the net present value of the total amount of rent payable under the leasing agreement (excluding finance charges) or
the fair market value of the leased asset. Capital lease assets are depreciated on a straight-line basis, over a period consistent with the Company’s normal depreciation policy for tangible fixed assets, but generally not exceeding the lease term. Interest charges are expensed over the period of the lease in relation to the carrying value of the capital lease obligation.
Rent expense for operating leases, which may include free rent or fixed escalation amounts in addition to minimum lease payments, is recognized on a straight-line basis over the duration of each lease term.
Prepublication costs
The Company capitalizes the art, prepress, editorial and other costs incurred in the creation of the master copy of a book or other media (the “prepublication costs”). Prepublication costs are amortized on a straight-line basis over a three to seven year period.period based on expected future revenues. The Company regularly reviews the recoverability of the capitalized costs.
Royalty advances
The Company records a reserve for the recoverability of its outstanding advances to authors based primarily upon historical earndown
39
experience. Royalty advances are expensed as related revenues are earned or when future recovery appears doubtful.
Goodwill and other intangibles
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, these reviews require the Company to estimate the fair value of its identified reporting units. For each of the reporting units, the estimated fair value is determined utilizing the expected present value of the projected future cash flows of the units, which is compared to the carrying value of the net assets of the reporting units. With regard to other intangibles with indefinite lives, the Company determines the fair value by asset, which is then compared to its carrying value.
Income taxes
The Company uses the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using enacted tax rates and laws that will be in effect when the differences are expected to enter into the determination of taxable income.
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 ongoing 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, which could materially affect the Company’s Consolidated Financial Statements.
It is the Company’s policy to establish reserves for probable exposures as a result of an examination by tax authorities. The Company establishes the reserves based upon management’s assessment of exposure associated with permanent tax differences, tax credits and interest expense applied to temporary difference adjustments. The tax reserves are analyzed periodically (at least annually) and adjustments are made as events occur to warrant adjustment to the reserve.
In calculating the provision for income taxes on an interim basis, the Company uses an estimate of the annual effective tax rate based upon the facts and circumstances known. The Company’s effective tax rate is based on expected income and statutory tax
rates and permanent differences between financial statement and tax return income applicable to the Company in the various jurisdictions in which the Company operates.
Other noncurrent liabilities
All of the rate assumptions discussed below impact the Company’s calculations of its pension and post-retirement obligations. The rates applied by the Company are based on the portfolios’ past average rates of return and discussions with its actuaries. Any change in market performance, interest rate performance, assumed health care costs trend rate, or compensation rates could result in significant changes in the Company’s pension and post-retirement obligations.
Pension obligations– Scholastic Corporation and certain of its subsidiaries have defined benefit pension plans covering the majority of their employees who meet certain eligibility requirements. The Company follows Statement of Financial Accounting Standards (“SFAS”)SFAS No. 87, “Employers’ Accounting for Pensions,” in calculating the existing benefit obligations and net cost under the plans. These 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 the service and interest cost components 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 increase 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. Pension benefits in the cash balance plan for employees located in the United States are based on formulas in which the employees’ balances are credited monthly with interest based on the average raterates for one-year United States Treasury Bills plus 1%. Contribution credits are based on employees’ years of service and compensation levels during their employment period.
Other post-retirement benefits– Scholastic Corporation provides post-retirement benefits, consisting of healthcare and life insurance benefits, to retired United States-based employees. A majority of these employees may become eligible for these benefits if they reach normal retirement age while working for the Company. The post-retirement medical plan benefits are funded on a pay-as-you-go basis, with the Company paying a
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portion of the premium and the employee paying the remainder. The Company follows SFAS No. 106, “Employers’ Accounting for Post-Retirement Benefits Other than Pensions,” in calculating the existing benefit obligation, which is based on the discount rate and the assumed health care cost trend rate. The discount rate is used in the measurement of the expectedprojected and accumulated benefit obligations and the service and interest cost components of net periodic post-retirement benefit cost. The assumed health care cost trend rate is used in the measurement of the long term expected increase in medical claims.
Foreign currency translation
The Company’s non-United States dollar denominated assets and liabilities are translated into United States dollars at prevailing rates at the balance sheet date and the revenues, costs and expenses are translated at the average rates prevailing during each reporting period. Net gains or losses resulting from the translation of the foreign financial statements and the effect of exchange rate changes on long-term intercompany balances are accumulated and charged directly to the foreign currency translation adjustment component of stockholders’ equity.
Reclassifications
Concentrations
The Company is the United States publisher of books from theHarry Potter®series. In fiscal 2006, the Company publishedHarry Potter and the Half-Blood Prince, the sixth book in the planned seven book series. Revenues from theHarry Potterseries totaled approximately $195, $20 and $175 for the years ended May 31, 2006, 2005 and 2004, respectively.
Shipping and Handling Costs
Amounts billed to customers for shipping and handling are classified as revenue. Costs incurred in shipping and handling are recognized in cost of goods sold.
Reclassifications
Certain prior year amounts have been reclassified to conform to the current year presentation.
Earnings per share
Basic earnings per share is based on the weighted average shares of Class A Stock and Common Stock outstanding. Diluted earnings per share is based on the weighted average shares of Class A Stock and Common Stock outstanding adjusted for the impact of potentially dilutive securities outstanding. The dilutive impact of options outstanding is calculated using the treasury stock method, which treats the options as if they were exercised at the beginning of the period, adjusted for Common Stock assumed to be repurchased with the proceeds and tax benefit realized upon exercise. Any potentially dilutive security is excluded from the computation of diluted earnings per share for any period in which it has an anti-dilutive effect. Options that were not included in the computation of diluted earnings per share because to do so would have been anti-dilutive totaled: 1,934,107 at May 31, 2006, 1,485,110 at May 31, 2005 and 3,123,912 at May 31, 2004.
Stock-based compensation
Under the provisions of SFAS No. 123, “Accounting for Stock-Based Compensation,” theThe Company applies the intrinsic value-based method of accounting prescribed by Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,”Employees” (“APB No. 25”), and related interpretations in accounting for its stock optionstock-based benefit plans. In accordance with APB No. 25,Under this method, no compensation expense was recognized with respect to options granted under the Company’s stock optionstock-based benefit plans, as the exercise price of each stock option issued was equal to the market price of the underlying stock on the date of grant and the exercise price and number of shares subject to grant were fixed. IfUnearned compensation recognized for restricted stock unit awards is shown as a separate component of stockholders’ equity and is amortized to expense overthe vesting period of the stock award using the straight-line method. SFAS No.123, “Accounting for Stock-Based Compensation,” as amended by SFAS No.148, “Accounting for Stock-Based Compensation - Transition and Disclosure” (as amended, “SFAS No. 123”), established accounting and disclosure requirements using a fair value-based method of accounting for stock-based employee compensation plans. As allowed by SFAS No.123, the Company has elected to continue to apply the intrinsic value-based method of accounting described above and has adopted the disclosure requirements of SFAS No.123. The Company will adopt the expense recognition provisions of SFAS No. 123 (Revised 2004), “Share-Based Payment” (“SFAS 123R”), beginning with the first quarter of the fiscal year ending May 31, 2007.
In May 2006, the Human Resources and Compensation Committee (the “Committee”) of the Board of Directors (the “Board”) of the Corporation, which consists entirely of independent directors, approved the acceleration of the vesting of all of the Company’s unvested options to purchase Class A Stock and Common Stock outstanding as of May 30, 2006 granted to employees (including executive officers) and outside directors of the Corporation, as described below (the “Acceleration”). Except for the Acceleration, all other terms and conditions applicable to such stock options were unchanged. Substantially all of these options had exercise prices in excess of the market value of the underlying Common Stock on May 30, 2006. The primary purpose of the Acceleration was to mitigate the future compensation expense that the Company would have otherwise recognized in its financial statements with respect to these options as a result of the June 1, 2006 adoption of SFAS No. 123R.
The Acceleration will reduce the amounts recognized by the Company as share-based compensation expense, under SFAS 123R, net of income taxes, by approximately $7 in fiscal 2007, $4 in fiscal 2008, $2 in fiscal 2009 and $1 in fiscal 2010. The accelerated options included 1,184,551 options held by certain executive officers, 582,750 of which related to the Class A Shares, 48,000 options held by eight non-employee directors, and 778,532 options held by other
employees. Based on the closing price of the Common Stock of $26.34 on May 30, 2006, the Company recorded an expense to earnings in the fourth quarter of fiscal 2006 of approximately $0.1 in connection with 194,875 of those options with exercise prices below that closing price.
The following table illustrates the effect on net income and earnings per share if the Company had elected to recognize compensation expense based onapplied the fair value recognition provisions of SFAS No.123 to stock-based employee compensation for each of the options granted at the date of grant and in respect to shares issuable under the Company’s equity compensation plans as prescribed by SFAS No. 123, net income and basic and diluted earnings per share for the three fiscal years ended May 31, would have been reduced to the pro forma amounts indicated in the following table:Net income–as reported $ 58.4 $ 58.6 $ 93.5 Add: Stock-based employee compensation included inreported net income, net of tax 0.4 0.3 0.2 Deduct: Total stock-based employee compensation expense determined under fair value-based method, net of tax 13.6 14.3 9.6 Net income–proforma $ 45.2$ 44.6$ 84.1Earnings pershare – as reported Basic $ 1.48 $ 1.50 $ 2.55 Diluted $ 1.46 $ 1.46 $ 2.38 Earnings per share – pro forma Basic $ 1.15 $ 1.14 $ 2.29 Diluted $ 1.13 $ 1.12 $ 2.17
2006 | 2005 | 2004 | ||||||
| Net income – as reported | $ | 68.6 | $ | 64.3 | $ | 57.8 | ||
| Add: Stock-based employee | ||||||||
| compensation included in | ||||||||
| reported net income, net of tax | 0.6 | 0.8 | 0.4 | |||||
| Deduct: Total stock-based employee | ||||||||
| compensation expense determined | ||||||||
| under fair value based method, | ||||||||
| net of tax | 23.8 | 13.0 | 13.6 | |||||
| Net income – pro forma | $ | 45.4 | $ | 52.1 | $ | 44.6 | ||
| 2006 | 2005 | 2004 | ||||||
| Earnings per share – as reported | ||||||||
| Basic | $ | 1.65 | $ | 1.61 | $ | 1.47 | ||
| Diluted | 1.63 | 1.58 | 1.44 | |||||
| Earnings per share – pro forma | ||||||||
| Basic | $ | 1.09 | $ | 1.30 | $ | 1.13 | ||
| Diluted | 1.08 | 1.28 | 1.12 | |||||
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the weighted average
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assumptions for the three fiscal years ended May 31 as follows:200420032002Expected dividend yield 0.0% 0.0% 0.0% Expected stock price volatility 60.5% 61.5% 66.1% Risk-free interest rate 2.92% 3.45% 4.59% Expected life of options 5 years 5 years 5 years
| 2006 | 2005 | 2004 | |||||||
| Expected dividend yield | 0.0 | % | 0.0 | % | 0.0 | % | |||
| Expected stock price volatility | 37.46 | % | 55.2 | % | 60.5 | % | |||
| Risk-free interest rate | 4.22 | % | 3.46 | % | 2.92 | % | |||
| Expected life of options | 5 years | 5 years | 5 years | ||||||
The weighted average fair value of options granted during fiscal 2006, 2005 and 2004 2003was $13.68, $16.33 and 2002 was $15.60, $18.00 and $25.24$15.02 per share, respectively. For purposes of pro forma disclosure, the estimated fair value of the options is amortized over the options’ vesting periods.periods, including the effect of the Acceleration.
New accounting pronouncements
In January 2003,December 2004, the Financial Accounting Standards Board (“FASB”(the “FASB”) issued FASB InterpretationSFAS No. 46, “Consolidation of Variable Interest Entities” (“FIN 46”),123R, which requires variable interest entitiescompanies to expense the fair value of all share-based payments as permitted, but not required, under SFAS No. 123. The Company adopted SFAS No. 123R effective June 1, 2006. Retroactive application of the fair value recognition provisions of SFAS No. 123R was permitted, but not required. Alternatively, a company could use the modified prospective transition method for application of SFAS No. 123R. Under this method, compensation expense is recognized for all share-based payments granted, modified or settled after the date of adoption based on their grant-date fair value. For awards granted prior to the adoption date, the compensation expense of any unvested portion is recognized over the remaining requisite service period. The Company is using the modified prospective transition method to adopt SFAS No. 123R. The Company currently estimates that the adoption of SFAS No. 123R will result in additional fiscal 2007 pre-tax compensation expense of approximately $3.0 to $5.0, or approximately $0.05 to $0.08 per diluted share after tax.
In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections - a replacement of APB Opinion No. 20 and FASB Statement No. 3” (“SFAS No.154”). Under the previous guidance, most voluntary changes in accounting principle were required to be consolidated byrecognized as the primary beneficiarycumulative effect of a change in accounting principle within the net income of the entity if certain criteria are met. FIN 46period in which the change was effective immediately for all variable interest entities created after January 31, 2003. For variable interest entities created or acquired before February 1, 2003, the provisionsmade. SFAS No. 154 requires retrospective application to prior period financial statements of FIN 46 becamea voluntary change in accounting principle, unless it is impracticable to do so. SFAS No. 154 is effective for theaccounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The Company during the fourth quarter of fiscal 2004.has elected to adopt SFAS No.154 effective June 1, 2006. The Company’s adoption of FIN 46 didSFAS No. 154 is not expected to have aany material impactimmediate effect on itsthe Company’s consolidated financial position, results of operations orand cash flows.
In May 2004, the FASB issued Staff Position 106-2, “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003” (“FSP 106-2”). FSP 106-2 applies only to a single-employer defined benefit post-retirement health care plan for which an employer has concluded that prescription drug benefits available under the plan are “actuarially equivalent” to the prescription drug benefit now provided under Medicare pursuant to the Medicare Prescription Drug, Improvement and Modernization Act of 2003, (the “2003 Medicare Act”), which was signed into law in December 2003, and therefore qualify for a federal subsidy introduced by that Act. Although the Company is not required to apply the guidance in FSP 106-2 until its fiscal quarter ending November 30, 2004, it has determined that its plan qualifies for such subsidy and has elected to begin accounting for the effects of the subsidy during its fiscal quarter ended May 31, 2004.
The Company categorizes its businesses into four operating segments:Children’s Book Publishing and Distribution; Educational Publishing; Media, Licensing and Advertising (which(which collectively represent the Company’s domestic operations); andInternational. This classification reflects the nature of products and services consistent with the method by which the Company’s chief operating decision-maker assesses operating performance and allocates resources. Revenues and operating margin related to a segment’s products sold or services rendered through another segment’s distribution channel are reallocated to the segment originating the products or services.
| • | Children’s Book Publishing and Distributionincludes the publication and distribution of children’s books in the United States through school-based book clubs and book fairs, school-based and direct-to-home continuity programs and the trade channel. | ||
| • | Educational Publishingincludes the production and/or publication and distribution to schools and libraries of educational technology products, curriculum materials, children’s books, classroom magazines and print and on-line reference and non-fiction products for grades pre-kindergarten to 12 in the United States. | ||
| • | Media, Licensing and Advertisingincludes the production and/or distribution of | ||
| • | Internationalincludes the publication and distribution of products and services outside the United States by the Company’s international operations, and its export and foreign rights businesses. |
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The following table sets forth information for the three fiscal years ended May 31 for the Company’s segments. Certain prior year amounts have been reclassified to conform with the present year presentation. Children’s Book Media, Publishing Licensing and Educational and Total Distribution Publishing Advertising Overhead(1) Domestic International Consolidated 2004 Revenues $ 1,358.6 $ 369.1 $ 136.4 $ 0.0 $ 1,864.1 $ 369.7 $ 2,233.8 Bad debt 78.6 1.0 1.2 0.0 80.8 9.5 90.3 Depreciation 13.2 3.2 1.8 28.5 46.7 6.5 53.2 Amortization (2) 16.0 36.3 24.6 0.0 76.9 2.5 79.4 Royalty advances expensed 20.7 0.9 4.7 0.0 26.3 2.2 28.5 Segment profit (loss) (3) 114.8 53.2 (2.5) (74.8) 90.7 24.3 115.0 Segment assets 737.7 311.8 60.3 347.2 1,457.0 298.8 1,755.8 Goodwill 127.9 82.5 10.7 0.0 221.1 29.2 250.3 Expenditures for long-lived assets (4) 53.3 35.5 27.6 21.5 137.9 9.2 147.1 Long-lived assets (5) 304.7 187.5 34.4 240.7 767.3 103.4 870.7 2003 Revenues $ 1,189.9 $ 325.9 $ 123.5 $ 0.0 $ 1,639.3 $ 319.0 $ 1,958.3 Bad debt 64.1 0.8 1.0 0.0 65.9 6.4 72.3 Depreciation 10.9 3.9 3.1 24.5 42.4 3.2 45.6 Amortization (2) 16.9 27.8 16.3 0.0 61.0 0.5 61.5 Royalty advances expensed 25.8 2.5 0.9 0.0 29.2 2.4 31.6 Segment profit (loss) (3) 134.4 41.9 (2.9) (74.1) 99.3 19.4 118.7 Segment assets 749.1 300.2 66.3 408.2 1,523.8 277.2 1,801.0 Goodwill 126.3 82.3 10.2 0.0 218.8 27.2 246.0 Expenditures for long-lived assets (4) 73.8 38.1 24.9 48.8 185.6 33.3 218.9 Long-lived assets (5) 302.8 191.7 39.9 247.0 781.4 99.9 881.3 2002 Revenues $ 1,168.6 $ 316.9 $ 129.8 $ 0.0 $ 1,615.3 $ 301.7 $ 1,917.0 Bad debt 58.5 0.9 2.1 0.0 61.5 7.2 68.7 Depreciation 8.6 3.4 1.5 17.7 31.2 4.4 35.6 Amortization (2) 16.0 22.8 11.4 0.0 50.2 1.0 51.2 Royalty advances expensed 23.6 1.6 0.8 0.0 26.0 0.6 26.6 Segment profit (loss) (3) 178.4 44.1 (0.2) (60.2) 162.1 24.6 186.7 Segment assets 689.5 303.8 55.3 358.1 1,406.7 222.9 1,629.6 Goodwill 129.5 82.9 10.0 0.0 222.4 33.8 256.2 Expenditures for long-lived assets (4) 112.5 51.9 22.4 47.8 234.6 8.7 243.3 Long-lived assets (5) 287.2 187.6 33.6 223.2 731.6 72.8 804.4
| Children’s | ||||||||||||||||||||||
| Book | Media, | |||||||||||||||||||||
| Publishing | Licensing | |||||||||||||||||||||
| and | Educational | and | Total | |||||||||||||||||||
| Distribution | Publishing | Advertising | Overhead(1) | Domestic | International | Consolidated | ||||||||||||||||
| 2006 | ||||||||||||||||||||||
| Revenues | $ | 1,304.0 | $ | 416.1 | $ | 151.6 | $ | 0.0 | $ | 1,871.7 | $ | 412.1 | $ | 2,283.8 | ||||||||
| Bad debt | 44.8 | 4.7 | 0.7 | 0.0 | 50.2 | 8.9 | 59.1 | |||||||||||||||
| Depreciation and amortization | 16.5 | 3.8 | 1.4 | 38.2 | 59.9 | 5.9 | 65.8 | |||||||||||||||
| Amortization(2) | 16.4 | 28.0 | 19.4 | 0.0 | 63.8 | 4.0 | 67.8 | |||||||||||||||
| Royalty advances expensed | 29.7 | 2.2 | 2.0 | 0.0 | 33.9 | 2.7 | 36.6 | |||||||||||||||
| Operating income (loss)(3) | 114.2 | 69.6 | 10.3 | (77.5 | ) | 116.6 | 22.7 | 139.3 | ||||||||||||||
| Segment assets | 808.8 | 349.4 | 70.0 | 508.5 | 1,736.7 | 315.5 | 2,052.2 | |||||||||||||||
| Goodwill | 130.6 | 82.5 | 9.8 | 0.0 | 222.9 | 30.2 | 253.1 | |||||||||||||||
| Expenditures for long-lived assets(4) | 65.0 | 28.8 | 20.3 | 33.2 | 147.3 | 13.9 | 161.2 | |||||||||||||||
| Long-lived assets(5) | 293.5 | 206.9 | 33.6 | 291.9 | 825.9 | 109.9 | 935.8 | |||||||||||||||
| 2005 | ||||||||||||||||||||||
| Revenues | $ | 1,152.5 | $ | 404.6 | $ | 133.1 | $ | 0.0 | $ | 1,690.2 | $ | 389.7 | $ | 2,079.9 | ||||||||
| Bad debt | 51.1 | 1.3 | 0.3 | 0.0 | 52.7 | 9.5 | 62.2 | |||||||||||||||
| Depreciation and amortization | 13.5 | 3.4 | 1.7 | 38.5 | 57.1 | 6.0 | 63.1 | |||||||||||||||
| Amortization(2) | 16.1 | 32.3 | 17.3 | 0.0 | 65.7 | 2.0 | 67.7 | |||||||||||||||
| Royalty advances expensed | 27.3 | 2.4 | 1.1 | 0.0 | 30.8 | 2.0 | 32.8 | |||||||||||||||
| Operating income (loss)(3) | 93.5 | 78.5 | 11.0 | (78.4 | ) | 104.6 | 30.3 | 134.9 | ||||||||||||||
| Segment assets | 733.3 | 347.3 | 63.1 | 484.7 | 1,628.4 | 303.0 | 1,931.4 | |||||||||||||||
| Goodwill | 130.6 | 82.5 | 9.8 | 0.0 | 222.9 | 31.3 | 254.2 | |||||||||||||||
| Expenditures for long-lived assets(4) | 64.6 | 38.7 | 22.1 | 22.8 | 148.2 | 12.2 | 160.4 | |||||||||||||||
| Long-lived assets(5) | 289.5 | 215.8 | 37.1 | 298.0 | 840.4 | 107.0 | 947.4 | |||||||||||||||
| 2004 | ||||||||||||||||||||||
| Revenues | $ | 1,358.6 | $ | 369.1 | $ | 136.4 | $ | 0.0 | $ | 1,864.1 | $ | 369.7 | $ | 2,233.8 | ||||||||
| Bad debt | 78.6 | 1.0 | 1.2 | 0.0 | 80.8 | 9.5 | 90.3 | |||||||||||||||
| Depreciation and amortization | 12.6 | 3.2 | 1.8 | 38.0 | 55.6 | 6.5 | 62.1 | |||||||||||||||
| Amortization(2) | 15.7 | 36.3 | 24.6 | 0.0 | 76.6 | 2.5 | 79.1 | |||||||||||||||
| Royalty advances expensed | 16.3 | 1.3 | 1.0 | 0.0 | 18.6 | 2.2 | 20.8 | |||||||||||||||
| Operating income (loss)(3) | 104.6 | 56.1 | 10.9 | (73.9 | ) | 97.7 | 23.5 | 121.2 | ||||||||||||||
| Segment assets | 713.3 | 338.5 | 59.6 | 418.2 | 1,529.6 | 302.2 | 1,831.8 | |||||||||||||||
| Goodwill | 127.9 | 82.5 | 10.7 | 0.0 | 221.1 | 28.6 | 249.7 | |||||||||||||||
| Expenditures for long-lived assets(4) | 53.3 | 35.5 | 27.6 | 21.5 | 137.9 | 9.2 | 147.1 | |||||||||||||||
| Long-lived assets(5) | 281.1 | 216.2 | 34.4 | 305.3 | 837.0 | 103.4 | 940.4 | |||||||||||||||
| (1) | Overhead includes all domestic corporate amounts not allocated to reportable segments, | |
| (2) | Includes amortization of prepublication | |
| (3) | ||
| (4) | Includes expenditures for property, plant and equipment, investments in prepublication and production costs, royalty advances and acquisitions of, and investments in, businesses. | |
| (5) | Includes property, plant and equipment, prepublication costs, goodwill, other intangibles, royalty advances, production costs and long-term investments. | |
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The following table separately sets forth information for the three fiscal years ended May 31 for the United States direct-to-home portion of the Company’s continuity programs, which consist primarily of the business formerly operated by Grolier Incorporated (“Grolier”) and are included in theChildren’s Book Publishing and Distributionsegment, and for all other businesses included in the segment: 2004 2003 2002 2004 2003 2002 2004 2003 2002 Revenues $ 203.8 $ 212.3 $ 209.0 $ 1,154.8 $ 977.6 $ 959.6 $ 1,358.6 $ 1,189.9 $ 1,168.6 Bad debt 49.9 41.9 39.6 28.7 22.2 18.9 78.6 64.1 58.5 Depreciation 0.5 0.3 0.4 12.7 10.6 8.2 13.2 10.9 8.6 Amortization (1) 1.3 1.5 0.7 14.7 15.4 15.3 16.0 16.9 16.0 Royalty advances
expensed 0.8 4.5 1.2 19.9 21.3 22.4 20.7 25.8 23.6 Business profit (loss) (2) (10.7) 30.7 39.7 125.5 103.7 138.7 114.8 134.4 178.4 Business assets 234.8 252.1 240.8 502.9 497.0 448.7 737.7 749.1 689.5 Goodwill 92.4 93.0 93.4 35.5 33.3 36.1 127.9 126.3 129.5 Expenditures for
long-lived assets (3) 4.6 6.8 9.5 48.7 67.0 103.0 53.3 73.8 112.5 Long-lived assets (4) 143.9 142.5 142.6 160.8 160.3 144.6 304.7 302.8 287.2
| Direct-to-home | |||||||||||||||||||||||||||||
| 2006 | 2005 | 2004 | 2006 | 2005 | 2004 | 2006 | 2005 | 2004 | |||||||||||||||||||||
| Revenues | $ | 134.9 | $ | 147.5 | $ | 203.8 | $ | 1,169.1 | $ | 1,005.0 | $ | 1,154.8 | $ | 1,304.0 | $ | 1,152.5 | $ | 1,358.6 | |||||||||||
| Bad debt | 29.6 | 31.9 | 49.9 | 15.2 | 19.2 | 28.7 | 44.8 | 51.1 | 78.6 | ||||||||||||||||||||
| Depreciation | 0.8 | 0.6 | 0.5 | 15.7 | 12.9 | 12.1 | 16.5 | 13.5 | 12.6 | ||||||||||||||||||||
| Amortization(1) | 1.4 | 1.4 | 1.3 | 15.0 | 14.7 | 14.4 | 16.4 | 16.1 | 15.7 | ||||||||||||||||||||
| Royalty advances | |||||||||||||||||||||||||||||
| expensed | 3.2 | 3.8 | 0.8 | 26.5 | 23.5 | 15.5 | 29.7 | 27.3 | 16.3 | ||||||||||||||||||||
| Business income (loss)(2) | (13.6 | ) | (2.8 | ) | (10.4 | ) | 127.8 | 96.3 | 115.0 | 114.2 | 93.5 | 104.6 | |||||||||||||||||
| Business assets | 217.8 | 196.2 | 218.9 | 591.0 | 537.1 | 494.4 | 808.8 | 733.3 | 713.3 | ||||||||||||||||||||
| Goodwill | 92.4 | 92.4 | 92.4 | 38.2 | 38.2 | 35.5 | 130.6 | 130.6 | 127.9 | ||||||||||||||||||||
| Expenditures for long-lived | |||||||||||||||||||||||||||||
| assets(3) | 5.9 | 7.1 | 4.6 | 59.1 | 57.5 | 48.7 | 65.0 | 64.6 | 53.3 | ||||||||||||||||||||
| Long-lived assets(4) | 116.5 | 115.2 | 115.2 | 177.0 | 174.3 | 165.9 | 293.5 | 289.5 | 281.1 | ||||||||||||||||||||
| (1) | Includes amortization of prepublication | |
| (2) | Business | |
| (3) | Includes expenditures for property, plant and equipment, investments in prepublication costs, royalty advances and acquisitions of businesses. | |
| (4) | Includes property, plant and equipment, prepublication costs, goodwill, other intangibles and royalty advances. | |
| 3. DEBT | |||||||||||||||||||
| The following summarizes debt as of May 31: | |||||||||||||||||||
| Carrying | Fair | Carrying | Fair | ||||||||||||||||
| Value | Value | Value | Value | ||||||||||||||||
| 2006 | 2005 | ||||||||||||||||||
| Lines of Credit | $ | 33.8 | $ | 33.8 | $ | 24.7 | $ | 24.7 | |||||||||||
| 5.75% Notes due 2007, net of premium/discount | 295.3 | 293.2 | 303.5 | 306.6 | |||||||||||||||
| 5% Notes due 2013, net of discount | 173.2 | 150.8 | 173.0 | 173.5 | |||||||||||||||
| Other debt | 0.1 | 0.1 | 0.2 | 0.2 | |||||||||||||||
| Total debt | 502.4 | 477.9 | 501.4 | 505.0 | |||||||||||||||
| Less current portion of long-term debt, | |||||||||||||||||||
| lines of credit and short-term debt | (329.2 | ) | (327.1 | ) | (24.9 | ) | (24.9 | ) | |||||||||||
| Total long-term debt | $ | 173.2 | $ | 150.8 | $ | 476.5 | $ | 480.1 | |||||||||||
3. DEBT
The following summarizesShort-term debt as of May 31:is carried at cost, which approximates fair value. Fair values were estimated based on market quotes, where available, or dealer quotes.
| Carrying | Fair | Carrying | Fair | |||||
| Value | Value | Value | Value | |||||
| Lines of Credit | $ 23.0 | $ 23.0 | $ 28.5 | $ 28.5 | ||||
| Credit Agreement and Revolver | 14.2 | 14.2 | — | — | ||||
| 7% Notes due 2003, net of discount | — | — | 125.0 | 128.5 | ||||
| 5.75% Notes due 2007, net of premium/discount | 305.5 | 313.5 | 303.8 | 322.4 | ||||
| 5.75% Notes due 2007 – swap valuation adjustment | — | — | 5.6 | 5.6 | ||||
| 5% Notes due 2013, net of discount | 172.8 | 163.1 | 172.6 | 182.7 | ||||
| Other debt | 1.1 | 1.1 | 0.4 | 0.4 | ||||
| Total debt | 516.6 | 514.9 | 635.9 | 668.1 | ||||
| Less lines of credit and short-term debt | (24.1) | (24.1) | (153.7) | (157.2) | ||||
| Total long-term debt | $ 492.5 | $ 490.8 | $ 482.2 | $ 510.9 | ||||
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The following table sets forth the maturities of the carrying values of the Company’s debt obligations as of May 31, 20042006 for fiscal years ended May 31:
| 2007 | $ | 329.2 | |
| 2008 | — | ||
| 2009 | — | ||
| 2010 | — | ||
| 2011 | — | ||
| Thereafter | 173.2 | ||
| Total debt | $ | 502.4 | |
Value2005 $ 24.1 2006 — 2007 305.5 2008 — 2009 14.2 Thereafter 172.8 Total debt $ 516.6
Lines of Credit
Certain of Scholastic Corporation’s international subsidiaries had unsecured lines of credit available in local currencies equivalent to $62.1$67.9 and $57.8$61.8 in the aggregate at May 31, 20042006 and 2003,2005, respectively. There were borrowings under these lines of credit equivalent to $23.0$33.8 and $28.5$24.7 outstanding under these credit lines at May 31, 20042006 and 2003,2005, respectively. These lines of credit are considered short-term in nature. The weighted average interest rates on the outstanding amounts were 5.48%6.0% and 6.89%5.4% at May 31, 20042006 and 2003,2005, respectively.
Credit Agreement
On March 31, 2004, Scholastic Corporation and its principal operating subsidiary, Scholastic Inc., entered into an unsecured revolving credit agreement with certain banks (the “Credit Agreement”), which replaced a similar loan agreement that was scheduled to expire on August 11, 2004 (the “Loan Agreement”). The Credit Agreement, which expires on March 31, 2009, provides for aggregate borrowings of up to $190.0 (with a right in certain circumstances to increase borrowings to $250.0), including the issuance of up to $10.0 in letters of credit. Interest under this facility is either at the prime rate or at a rate 0.325% to 0.975% over LIBOR (as defined). There is a facility fee ranging from 0.10% to 0.30% and a utilization fee ranging from 0.05% to 0.25% if borrowings exceed 50% of the total facility. The amounts charged vary based upon the Company’s credit rating. The interest rate, and facility fee and utilization fee (when applicable) as of May 31, 20042006 were 0.55%0.675% over LIBOR, 0.20% and 0.15%0.125%, respectively. The Credit Agreement contains certain financial covenants related to debt and interest coverage ratios (as defined) and limits dividends and other distributions. On May 31, 2004, $12.0 was outstandingThere were no borrowings under the Credit Agreement atas of May 31, 2006 or May 31, 2005. The Company’s credit rating was downgraded to BB+ by Standard and Poor’s (“S&P”) on March 23, 2006 and to Ba1 by Moody’s Investor Service (“Moody’s”) on June 20, 2006. S&P further downgraded the Company’s credit rating to BB on July 27, 2006. As a weighted averageresult of these downgrades, the interest rate, of 1.7%.
Revolverfacility fee and utilization fee, when applicable, are currently 0.975% over LIBOR, 0.30% and 0.25%, respectively.
Revolver
Scholastic Corporation and Scholastic Inc. are joint and several borrowers under an unsecured revolving loan agreement with a bank (the “Revolver”). As amended effective April 30, 2004, the Revolver provides for unsecured revolving credit of up to $40.0 and expires on March 31, 2009. Interest under this facility is either at the prime rate minus 1%, or at a rate 0.375% to 1.025% over LIBOR (as defined). There is a facility fee ranging from 0.10% to 0.30%. The amounts charged vary based upon the Company’s credit rating. The interest rate and facility fee as of May 31, 20042006 were 0.60%0.725% over LIBOR and 0.15%0.20%, respectively. The Revolver contains certain financial covenants related to debt and interest coverage ratios (as defined) and limits dividends and other distributions. At May 31, 2004, $2.2 was outstanding under the Revolver at a weighted average interest rate of 3.0%. There were no borrowings outstanding under the Revolver at May 31, 2003.
7% Notes due 2003
Scholastic Corporation repaid all $125.0 of its 7% Notes at maturity on December 15, 2003, using cash on hand and borrowings available under the Loan Agreement and the Revolver made possible by the issuance2006 or 2005. As a result of the 5% Notes, as defined below.downgrades of the Company’s credit rating noted under “Credit Agreement” above, the interest rate and facility fee are currently 1.025% over LIBOR and 0.30%, respectively.
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5.75% Notes due 2007
In January 2002, Scholastic Corporation issued $300.0 of 5.75% Notes (the “5.75% Notes”). The 5.75% Notes are senior unsecured obligations that mature on January 15, 2007. Interest on the 5.75% Notes is payable semi-annually on July 15 and January 15 of each year.year through maturity. The Company may, at any time, redeem all or a portion of the 5.75% Notes at a redemption price (plus accrued interest to the date of redemption) equal to the greater of (i) 100% of the principal amount, or (ii) the sum of the present values of the remaining scheduled payments of principal and interest discounted to the date of redemption.
Interest Rate Swap Agreement
In February 2002, Scholastic Corporation entered into an interest rate swap agreement, designated as a fair value hedge as defined under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” whereby During fiscal 2006, the Company received a fixed interest rate payment from, and paid an amount based on a variable rate to, the counterparty based on a notional amount, in order to exchange the fixed rate payments on a portionrepurchased $6.0 of the 5.75% Notes for variable rate payments. on the open market.
In accordance with SFAS No. 133, the swap was considered perfectly effective and all changes in fair value were recorded to Other assets and Long-term debt. On May 28, 2003, $50.0 of the original $100.0 notional amount was settled andfiscal 2007 through August 4, 2006, the Company received a payment of $5.4 from the counterparty. On November 3, 2003, the remaining $50.0 under the agreement was settled, and the Company received a payment of $3.8 from the counterparty. The cash received was used to fully reduce the Other asset previously established, and the corresponding credit is being amortized over the remaining termrepurchased approximately $35.4 of the 5.75% Notes. The fair valueNotes on the open market. After giving effect to these repurchases, the outstanding 5.75% Notes, net of this interest rate swap agreement was $5.6 at May 31, 2003.premium/discount, totaled approximately $259.5.
5% Notes due 2013
OnIn April 4, 2003, Scholastic Corporation issued $175.0 of 5% Notes (the “5% Notes”). The 5% Notes are senior unsecured obligations that mature on April 15, 2013. Interest on the 5% Notes is payable semi-annually on April 15 and October 15 of each year.year through maturity. The Company may at any time redeem all or a portion of the 5% Notes at a redemption price (plus accrued interest to the date of the redemption) equal to the greater of (i) 100% of the principal amount, or (ii) the sum of the present values of the remaining scheduled payments of principal and interest discounted to the date of redemption.
4. COMMITMENTS AND CONTINGENCIES
CommitmentsLease Obligations
The Company leases warehouse space, office space and equipment under various capital and operating leases.leases over periods ranging from one to forty years. Certain of these leases provide for scheduled rent increases based on price-level factors. The Company generally does not enter into leases that call for contingent rent. In most cases, management expects that, in the normal course of business, leases will be renewed or replaced by other leases. The Company has no significant capitalized leases. Totalreplaced.
Net rent expense relating to the Company’s non-cancelable operating leases was $47.8, $48.3 and $44.2 for the three fiscal years ended May 31, 2006, 2005 and 2004 2003was $39.5, $36.6 and 2002,$36.4, respectively.
The rent payments are subject to escalation provisionsCompany was obligated under capital leases covering land, buildings and are netequipment in the amount of sublease income. $68.9 and $74.4 at May 31, 2006 and 2005, respectively. Amortization of assets under capital leases is included in depreciation and amortization expense.
The composition of capital leases reflected as Property, Plant and Equipment in the consolidated balance sheets is:
| 2006 | 2005 | ||||||
| Land | $ | 3.5 | $ | 3.5 | |||
| Buildings | 39.0 | 39.0 | |||||
| Equipment | 49.0 | 45.6 | |||||
| 91.5 | 88.1 | ||||||
| Accumulated amortization | (39.2 | ) | (28.1 | ) | |||
| Total | $ | 52.3 | $ | 60.0 | |||
| Operating Leases | Capital Leases | ||||||
| 2007 | $ | 36.4 | $ | 12.8 | |||
| 2008 | 25.9 | 10.5 | |||||
| 2009 | 18.7 | 8.9 | |||||
| 2010 | 15.7 | 7.6 | |||||
| 2011 | 12.5 | 5.8 | |||||
| Thereafter | 75.0 | 218.3 | |||||
| Total minimum lease payments | $ | 184.2 | 263.9 | ||||
| Less amount representing interest | 195.0 | ||||||
| Present value of net minimum capital lease payments | 68.9 | ||||||
| Less current maturities of capital lease obligations | 7.5 | ||||||
| Long-term capital lease obligations | $ | 61.4 | |||||
Other Commitments
The Company had certain contractual commitments principally relating to royalty advances at May 31, 20042006 totaling $18.7.$8.0. The aggregate annual commitments for royalty advances are as follows: 2005 – $14.8; 2006 – $3.5;fiscal 2007 – $0.4.
Contingencies$6.7; fiscal 2008 – $0.5; fiscal 2009 – $0.6; fiscal 2010 – $0.2.
Contingencies
Various claims and lawsuits arising in the normal course of business are pending against the Company. The results of these proceedings are not expected to have a material adverse effect on the Company’s consolidated financial position or results of operations.
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5. ACQUISITIONSINVESTMENT
Fiscal 2004 Acquisitions
On July 1, 2003, the Company acquired certain assets of Troll Holdings, Inc. (“Troll”), formerly a national school-based book club operator and publisher, for $4.0 in cash and the assumption of certain ordinary course liabilities. On August 8, 2003, the Company acquired the stock of BTBCAT, Inc., which operates Back to Basics Toys (“Back to Basics”), a direct-to-home catalog business specializing in children’s toys, for $4.8 in cash. The assets and liabilities of each business acquired were adjusted to their fair values as of the date of acquisition, with the purchase price in excess of the fair market value assigned to goodwill.
The following summarizes the allocation of the aggregate purchase price of the fiscal 2004 acquisitions:
The operating results of each fiscal 2004 acquisition have been included in the Company’s consolidated results of operations since the respective dates of acquisition. The effect on operating results of including the acquired business operations on a pro forma basis would not be material.
Fiscal 2003 Acquisition
In fiscal 2003, the Company acquired all worldwide rights to the Goosebumps™ property from Parachute Press, Inc. and its affiliates (“Parachute”) and the parties settled all outstanding disputes between them. Under the agreement, the Company paid $9.7 to acquire all Parachute’s rights in the Goosebumps trademark, to publish existing and future Goosebumps books and to develop and exploit the property on a worldwide basis in all media, without future royalty obligations to Parachute.
Fiscal 2002 Acquisitions
During fiscal 2002, the Company completed the acquisitions of the stock or assets of the following companies: Troll Book Fairs LLC, a national school-based book fair operator; Tom Snyder Productions, Inc., a developer and publisher of interactive educational software and producer of television programming; Sandvik Publishing Ltd., d/b/a Baby’s First Book Club®, a direct marketer of age-appropriate books and toys for young children; Klutz, a publisher and creator of “books plus” products for children; Teacher’s Friend Publications, Inc., a producer and marketer of materials that teachers use to decorate their classrooms; and Nelson B. Heller & Associates, a publisher of business-to-business newsletters. The aggregate purchase price for these acquisitions, net of cash received, was $66.7. In addition to the initial purchase price paid for Klutz of $42.8, the purchase agreement provided for additional payments of up to $31.3 in 2004 and 2005, contingent upon the achievement of certain revenue thresholds. The Company does not expect to make any payment for 2004.
The assets and liabilities of each business acquired were adjusted to their fair values as of the date of acquisition, with the purchase price in excess of the fair market value assigned to goodwill.
The following summarizes the allocation of the aggregate purchase price of the fiscal 2002 acquisitions:
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The allocation of the aggregate purchase price was finalized during fiscal 2003. The operating results of each fiscal 2002 acquisition have been included in the Company’s consolidated results of operations since the respective dates of acquisition. The effect on operating results of including the acquired business operations on a pro forma basis would not be material.
In connection with the fiscal 2002 acquisitions, the Company established liabilities of $3.2 at May 31, 2002, relating primarily to severance and other exit costs. As of May 31, 2004, $0.2 of these liabilities remained unpaid.
6. INVESTMENT
In fiscal 2003, the Company entered into a joint venture with The Book People, Ltd., a direct marketer of books in the United Kingdom, to distribute books to the home under the Red House name and through
schools under the School Link name. Accordingly, £5.9 (equivalent to $9.1 as of the date of the transaction) relating to Red House was recorded as an investment in the joint venture (see Note 7). The Company also acquired a 15% equity interest in The Book People Ltd.’s parent company, The Book People Group Ltd. for £12.0 (equivalent to $17.9 asAs part of the date oftransaction, the transaction) with a possible additional payment of £3.0 based on operating results and contingent on repayment of all borrowings underCompany established a £3.0 revolving credit facility established at the date of the transaction by the Company in favor of The Book People Group, Ltd. The revolving credit facility, which is available to fund the expansion of The Book People Group, Ltd. and for working capital purposes. As of May 31, 2004,2006, £3.0 (equivalent to $5.5$5.3 at that date) was outstanding under the revolving credit facility. The equity investment in The Book People Group, Ltd. is included in Other within the Other Assets and Deferred Charges section of the Consolidated Balance Sheets.
7.6. GOODWILL AND OTHER INTANGIBLES
Goodwill and other intangible assets with indefinite lives are reviewed for impairment annually, or more frequently if impairment indicators arise.
The following table summarizes the activity in Goodwill for the years ended of May 31: 2004 2003 Beginning balance $ 246.0 $ 256.2 Additions due to acquisitions 3.0 0.4 Investment in joint venture — (9.1) Other adjustments 1.3 (1.5) Ending balance $ 250.3 $ 246.0
| 2006 | 2005 | |||||
| Beginning balance | $ | 254.2 | $ | 249.7 | ||
| Additions due to acquisitions | — | 6.0 | ||||
| Other adjustments | (1.1 | ) | (1.5 | ) | ||
| Ending Balance | $ | 253.1 | $ | 254.2 | ||
In fiscal 2005, Additions due to acquisitions includes the purchase price for the acquisition of Chicken House Publishing Ltd. and the accrual of a final payment related to the fiscal 2002 acquisition of Klutz.
The following table summarizes Other intangibles subject to amortization as of May 31: 2004 2003 Customer lists $ 2.9 $ 2.9 Accumulated amortization (2.7) (2.5) Net customer lists 0.2 0.4 Other intangibles 4.0 3.9 Accumulated amortization (2.4) (2.3) Net other intangibles 1.6 1.6 Total $ 1.8 $ 2.0
2006 2005 Customer lists 3.0 3.0 Accumulated amortization (2.9 ) (2.8 ) Net customer lists 0.1 0.2 Other intangibles 4.0 4.0 Accumulated amortization (2.8 ) (2.6 ) Net other intangibles 1.2 1.4 Total 1.3 1.6
Amortization expense for Other intangibles totaled $0.3 $0.5 and $1.0 for each of the fiscal years ended May 31, 2004, 20032006, 2005 and 2002, respectively.2004. Amortization expense for these assets is currently estimated to total $0.3 for each of the fiscal years ending May 31, 2005 and 2006, and $0.2 for each of the fiscal years ending May 31, 2007 through 2009.2010, and $0.1 for the fiscal year ending May 31, 2011. The weighted average amortization periods for these assets by major asset class are two years and 13twelve years for customer lists and other intangibles, respectively.
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The following table summarizes Other intangibles not subject to amortization as of May 31: 2004 2003 Net carrying value by major class: Titles $ 31.0 $ 31.0 Licenses 17.2 17.2 Major sets 11.4 11.4 Trademarks and other 17.5 12.6 Total $ 77.1 $ 72.2
| 2006 | 2005 | |||||
| Net carrying value by major class: | ||||||
| Titles | $ | 31.0 | $ | 31.0 | ||
| Licenses | 17.2 | 17.2 | ||||
| Major sets | 11.4 | 11.4 | ||||
| Trademarks and other | 17.5 | 17.5 | ||||
| Total | $ | 77.1 | $ | 77.1 | ||
Trademarks and other increased by $4.9, relating to the fiscal 2004 Troll and Back to Basics acquisitions.
8.7. INCOME TAXES
The provisions for income taxes for the fiscal years ended May 31, 2006, 2005 and 2004 are based on earnings before taxes and Cumulative effect of accounting change as follows: 2004 2003 2002 United States $ 89.9 $ 81.8 $ 144.7 Non-United States 0.6 8.3 8.6 $ 90.5 $ 90.1 $ 153.3
| 2006 | 2005 | 2004 | |||||||
| United States | $ | 103.2 | $ | 91.3 | $ | 89.1 | |||
| Non-United States | 4.4 | 8.4 | 0.5 | ||||||
| Total | $ | 107.6 | $ | 99.7 | $ | 89.6 | |||
The provisions for income taxes attributable to earnings before Cumulative effect of accounting change for the fiscal years ended May 31, 2006, 2005 and 2004 consist of the following components:
| 2006 | 2005 | 2004 | |||||||
| Federal | |||||||||
| Current | $ | 25.1 | $ | 5.7 | $ | 19.0 | |||
| Deferred | 1.6 | 19.0 | 5.9 | ||||||
| $ | 26.7 | $ | 24.7 | $ | 24.9 | ||||
| State and local | |||||||||
| Current | $ | 6.6 | $ | 4.2 | $ | 4.7 | |||
| Deferred | 0.1 | 0.4 | 0.8 | ||||||
| $ | 6.7 | $ | 4.6 | $ | 5.5 | ||||
| International | |||||||||
| Current | $ | 5.5 | $ | 5.1 | $ | 5.5 | |||
| Deferred | 0.1 | 1.0 | (4.1 | ) | |||||
| $ | 5.6 | $ | 6.1 | $ | 1.4 | ||||
| Total | |||||||||
Current | $ | 37.2 | $ | 15.0 | $ | 29.2 | |||
Deferred | 1.8 | 20.4 | 2.6 | ||||||
| $ | 39.0 | $ | 35.4 | $ | 31.8 | ||||
| 2004 | 2003 | 2002 | ||||
| Federal | ||||||
| Current | $ 18.9 | $ 11.5 | $ 29.4 | |||
| ��Deferred | 6.2 | 13.4 | 15.4 | |||
| $ 25.1 | $ 24.9 | $ 44.8 | ||||
| State and local | ||||||
| Current | $ 4.7 | $ 3.4 | $ 3.7 | |||
| Deferred | 0.8 | 0.9 | 2.0 | |||
| $ 5.5 | $ 4.3 | $ 5.7 | ||||
| International | ||||||
| Current | $ 5.6 | $ 4.3 | $ 3.5 | |||
| Deferred | (4.1) | (2.0) | 0.6 | |||
| $ 1.5 | $ 2.3 | $ 4.1 | ||||
| Total | ||||||
| Current | $ 29.2 | $ 19.2 | $ 36.6 | |||
| Deferred | 2.9 | 12.3 | 18.0 | |||
| $ 32.1 | $ 31.5 | $ 54.6 | ||||
The provisions for income taxes attributable to earnings before Cumulative effect of accounting change for the fiscal years ended May 31, 2006, 2005 and 2004 differ from the amount of tax determined by applying the federal statutory rate as follows: 2004 2003 2002 Computed federal statutory provision $ 31.7 $ 31.5 $ 53.7 State income tax provision, net of federal income tax benefit 3.6 2.8 3.6 Difference in effective tax rateson earnings of foreign subsidiaries (3.0) (1.4) (0.7) Charitable contributions — (1.4) (1.8) Other – net (0.2) 0.0 (0.2) Total provision for income taxes $ 32.1 $ 31.5 $ 54.6 Effective tax rates 35.5% 35.0% 35.6%
| 2006 | 2005 | 2004 | |||||||||
| Computed federal statutory provision | $ | 37.7 | $ | 34.9 | $ | 31.4 | |||||
| State income tax provision, net of federal income tax benefit | 4.4 | 3.0 | 3.6 | ||||||||
| Difference in effective tax rates on earnings of foreign subsidiaries | (0.1 | ) | (0.4 | ) | (3.0 | ) | |||||
| Extraterritorial income | (1.4 | ) | (0.9 | ) | (0.8 | ) | |||||
| Charitable contributions | (0.6 | ) | (1.4 | ) | 0.0 | ||||||
| Other – net | (1.0 | ) | 0.2 | 0.6 | |||||||
| Total provision for income taxes | $ | 39.0 | $ | 35.4 | $ | 31.8 | |||||
| Effective tax rates | 36.25 | % | 35.5 | % | 35.5 | % | |||||
The undistributed earnings of foreign subsidiaries at May 31, 2006 were $21.2. Any remittance of foreign earnings would not result in any significant additional tax.
Deferred income taxes reflectThe following table sets forth the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting and the amounts used for income tax purposes as determined under enacted tax laws and rates. The tax effects of items that give rise to deferred tax assets and liabilities as ofat May 31, for the indicated fiscal years are as follows: 2004 2003 Net deferred tax assets: Tax uniform capitalization $ 24.2 $ 24.3 Inventory reserves 18.5 16.7 Allowance for doubtful accounts 21.5 19.6 Other accounting reserves 13.5 18.4 Post-retirement, post-employment and pension obligations 13.6 21.3 Tax carryforwards 5.7 5.1 Prepaid expenses (11.0) (15.2) Depreciation and amortization (23.9) (10.7) Other – net (1.5) (1.5) Total net deferred tax assets $ 60.6 $ 78.0
| 2006 | 2005 | ||||||
| Net deferred tax assets: | |||||||
| Tax uniform capitalization | $ | 21.7 | $ | 23.7 | |||
| Inventory reserves | 19.1 | 18.4 | |||||
| Allowance for doubtful accounts | 14.7 | 10.7 | |||||
| Other reserves | 15.8 | 12.4 | |||||
| Post-retirement, post-employment and pension obligations | 16.8 | 20.5 | |||||
| Tax carryforwards | 19.1 | 17.6 | |||||
| Lease accounting | 6.3 | 6.5 | |||||
| Prepaid expenses | (16.5 | ) | (11.4 | ) | |||
| Depreciation and amortization | (39.6 | ) | (35.1 | ) | |||
| Other – net | 7.0 | 7.3 | |||||
| Subtotal | 64.4 | 70.6 | |||||
| Valuation allowance | (10.7 | ) | (8.8 | ) | |||
| Total net deferred tax assets | $ | 53.7 | $ | 61.8 | |||
NetTotal net deferred tax assets of $60.6$53.7 at May 31, 20042006 and $78.0$61.8 at May 31, 20032005 include $4.0$5.5 and $1.2$4.1 in Other accrued expenses at May 31, 20042006 and 2003,2005, respectively, and $13.9$18.4 and $3.1$17.2 in Other noncurrent liabilities at May 31, 20042006 and 2003,2005, respectively.
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The undistributed earnings of foreign subsidiaries at May 31, 2004 were $22.7. Any remittance of foreign earnings would not result in any significant additional tax.
At May 31, 2004,2006, the Company had a charitable deduction carryforward of $7.2,$16.6, which expires in various amounts during the fiscal yearyears ending 2008 through 2010, and federal and state operating loss carryforwards of $3.2 and $16.6, respectively, which expire annually in varying amounts if not utilized. The Company also had foreign operating loss carryforwards of $10.7,$29.4 at May 31, 2006, which either expire at various dates or do not have expiration dates.expire.
For the years ended May 31, 2006 and 2005, the valuation allowance increased by $1.9 and $0.4, respectively.
The Company had tax reserves totaling $8.3$7.3 and $8.0$7.2 at May 31, 20042006 and 2003,2005, respectively.
9.8. CAPITAL STOCK AND STOCK OPTIONS
Scholastic Corporation has authorized capital stock of 2,500,000 shares of Class A Stock, par value $0.01 per share (the “Class A Stock”); 70,000,000 shares of Common Stock, par value $0.01 per share (the “Common Stock”); and 2,000,000 shares of Preferred Stock, par value $1.00 per share (the “Preferred Stock”).
Class A Stock and Common Stock
At May 31, 2004,2006, 1,656,200 shares of Class A Stock and 37,930,98640,282,246 shares of Common Stock were outstanding. At May 31, 2004,2006, Scholastic Corporation had reserved for issuance 11,794,15410,717,299 shares of Common Stock. Of thesethis amount, 8,514,515 shares 9,387,702of Common Stock were reserved for issuance under the Company’s stock-based plans (including shares available for grant and stock options and Restricted Stock Units currently outstanding), 1,656,200 shares of Common Stock were reserved for issuance upon conversion of the outstanding Class A Stock and 546,584 shares of Common Stock were reserved for future issuances under the Company’s stock-based plans. At May 31, 2006 750,000 shares of Class A Stock were reserved for issuance under the Company’s stock-based plans (including shares available for grant and stock options currently outstanding), 1,656,200 shares were reserved for issuance upon conversion of the Class A Stock and 750,252 shares were reserved for future issuances under the Company’s employee stock purchase plans..
The only voting rights vested in the holders of Common Stock, except as required by law, are the election of such number of directors as shall equal at
least one-fifth of the members of the Board of Directors.Board. The holders of Class A Stock are entitled to elect all other directors and to vote on all other matters. Holders of Class A Stock and Common Stock are entitled to one vote per share on matters on which they are entitled to vote. The holders of Class A Stock have the right, at their option, to convert shares of Class A Stock into shares of Common Stock on a share-for-share basis.
With the exception of voting rights and conversion rights, and as to the rights of holders of Preferred Stock if issued, the Class A Stock and the Common Stock are equal in rank and are entitled to dividends and distributions, when and if declared by the Board of Directors.Board. Scholastic Corporation has not paid any cash dividends since its public offering in 1992 and has no current plans to pay any dividends on its Class A Stock or Common Stock.
Preferred Stock
The Preferred Stock may be issued in one or more series, with the rights of each series, including voting rights, to be determined by the Board of Directors before each issuance. To date, no shares of Preferred Stock have been issued.
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Stock Options
Stock-Based Awards
At May 31, 2004,2006, the Company maintained three stockholder-approved employee stock-based benefit plans:plans with regard to the Common Stock: the Scholastic Corporation 1992 Stock Option Plan (the “1992 Plan”), under which no further awards can be made; the Scholastic Corporation 1995 Stock Option Plan (the “1995 Plan”);, under which no further awards can be made; and the Scholastic Corporation 2001 Stock Incentive Plan (the “2001 Plan”). The 19952001 Plan provides for the issuance of two types of options to purchase Company stock: incentive stock options, which qualify for specialfavorable treatment under the Internal Revenue Code, and options that are not so qualified, called non-qualified stock options. The 2001 Plan provides for the issuance of non-qualified stock options, incentive stock options, restricted stock and other stock-based awards.
Stock Options — At May 31, 2004,2006, non-qualified stock options to purchase 594,956; 4,219,256;190,000 shares, 2,894,578 shares and 2,894,8752,758,530 shares of Common Stock were outstanding under the 1992 Plan, 1995 Plan and 2001 Plan, respectively;respectively, and 19,990 and 1,095,125759,541 shares of Common Stock were available for additional awards under the 1995 Plan and 2001 Plan, respectively.Plan.
The Company also maintains two stockholder-approved stock option plans for outside directors: the 1992 Outside Directors’ Stock Option Plan (the “1992 Directors’ Plan”), under which no further awards can be made, and the 1997 Outside Directors’ Stock Option Plan (the “1997 Directors’ Plan”)., a stockholder-approved stock option plan for outside directors. The 1997 Directors’ Plan, as amended, provides for the automatic grant to each non-employee directorsdirector on the date of each annual stockholders’ meeting of non-qualified stock options to purchase 6,000 shares of Common Stock. At May 31, 2004,2006, options to purchase 311,500 and 12,000376,000 shares of Common Stock were outstanding under the 1997 Directors’ Plan and the 1992 Directors’ Plan, respectively, and 240,000144,000 shares of Common Stock were available for additional awards under the 1997 Directors’ Plan. In September 2003,2005, options were awarded under the 1997 Directors’ Plan at an exercise price of $30.88. On September 23, 2003,$36.41.
The Scholastic Corporation 2004 Class A Stock Incentive Plan (the “Class A Plan”) provides for the grant to Richard Robinson, the Chief Executive Officer of the Corporation as of the effective date of the Class A Stockholders approvedPlan, of options (“Class A Options”) to purchase up to an increase in the numberaggregate of 750,000 shares of Common Stock available for issuanceClass A Stock. At May 31, 2006, there were 666,000 Class A Options outstanding under the 1997 Directors’ Plan of 270,000 shares.Class A Plan.
Generally, options granted under the various plans may not be exercised for a minimum of one year after the date of grant and expire approximately ten years after the date of grant. As a result of the Acceleration, all unvested stock options outstanding as of May 30, 2006 became vested and immediately exercisable.
The following table sets forth the stock option activity for the Class A Stock and Common Stock plans for the three fiscal years ended May 31: Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise Options Price Options Price Options Price Outstanding – beginning of year 6,852,258 $ 28.65 5,539,712 $ 27.58 6,035,804 $ 25.28 Granted 1,599,000 27.90 1,392,240 32.69 692,000 42.62 Exercised (197,296) 23.23 (59,694) 21.49 (911,292) 22.07 Cancelled (221,375) 32.89 (20,000) 34.31 (276,800) 32.79 Outstanding – end of year 8,032,587 $ 28.52 6,852,258 $ 28.65 5,539,712 $ 27.58 Exercisable – end of year 5,279,912 $ 27.43 4,669,518 $ 26.05 4,083,962 $ 24.52
| Weighted | Weighted | Weighted | ||||||||||||||||
| Average | Average | Average | ||||||||||||||||
| Exercise | Exercise | Exercise | ||||||||||||||||
| Options | Price | Options | Price | Options | Price | |||||||||||||
| Outstanding – beginning of year | 7,469,650 | $ | 28.57 | 8,032,587 | $ | 28.52 | 6,852,258 | $ | 28.65 | |||||||||
| Granted | 851,500 | 34.67 | 912,901 | 28.32 | 1,599,000 | 27.90 | ||||||||||||
| Exercised | (1,101,878 | ) | 23.36 | (1,038,828 | ) | 26.10 | (197,296 | ) | 23.23 | |||||||||
| Cancelled | (334,164 | ) | 32.81 | (437,010 | ) | 33.36 | (221,375 | ) | 32.89 | |||||||||
| Outstanding – end of year | 6,885,108 | $ | 30.24 | 7,469,650 | $ | 28.57 | 8,032,587 | $ | 28.52 | |||||||||
| Exercisable – end of year | 6,885,108 | $ | 30.24 | 5,106,057 | $ | 28.18 | 5,279,912 | $ | 27.43 | |||||||||
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The following table sets forth information as of May 31, 20042006 regarding weighted average exercise prices and weighted average remaining contractual lives for the remaining outstanding stock options, sorted by range of exercise price:
| Options Exercisable | |||||||||||||||
| Weighted | |||||||||||||||
| Average | Weighted | ||||||||||||||
| Weighted | Remaining | Average | |||||||||||||
| Options | Average | Contractual | Number | Exercise | |||||||||||
| Price Range | Number | Exercise Price | Life | Exercisable | Price | ||||||||||
| $15.73 | $20.97 | 841,806 | $ 18.42 | 1.5 | 841,806 | $ 18.42 | |||||||||
| $20.98 | $26.21 | 899,250 | 25.37 | 4.1 | 899,250 | 25.37 | |||||||||
| $26.22 | $31.45 | 2,233,510 | 28.57 | 7.0 | 2,233,510 | 28.57 | |||||||||
| $31.46 | $36.69 | 1,948,160 | 34.22 | 6.0 | 1,948,160 | 34.22 | |||||||||
| $36.70 | $41.94 | 445,409 | 37.48 | 8.1 | 445,409 | 37.48 | |||||||||
| $41.95 | $47.18 | 449,913 | 43.06 | 5.5 | 449,913 | 43.06 | |||||||||
| $47.19 | $52.42 | 67,060 | 49.77 | 5.6 | 67,060 | 49.77 | |||||||||
Options Outstanding Weighted Average Weighted Weighted Remaining Average Options Average Contractual Number Exercise Price Range Number Exercise Price Life Exercisable Price $ 15.73 — $ 20.97 1,663,666 $ 18.36 3.5years 1,663,666 $ 18.36 $ 20.98 — $ 26.21 1,292,281 25.28 6.2 years 992,856 25.42 $ 26.22 — $ 31.45 2,211,400 28.32 7.0 years 727,900 29.45 $ 31.46 — $ 36.69 2,117,990 33.60 7.0 years 1,391,990 32.93 $ 36.70 — $ 41.94 131,750 38.30 6.1 years 80,500 38.18 $ 41.95 — $ 47.18 533,500 43.03 7.5 years 354,000 43.12 $ 47.19 — $ 52.42 82,000 49.99 7.6 years 69,000 49.88
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Restricted Stock– The Company may grant restricted stock units under the 2001 Plan (“Stock Units”). During fiscal 2006 and 2005, the Company granted 1,000 and 71,731 Stock Units, respectively, with a weighted average grant date fair value of $26.33 and $30.81 per unit, respectively, to certain officers and key executives. The Stock Units are scheduled to vest in four equal annual installments beginning one year from the grant date. Upon vesting, Stock Units are converted automatically on a one-for-one basis into shares of Common Stock. In fiscal 2006 and 2005, the Company amortized $0.6 and $0.3, respectively, in connection with the outstanding Stock Units, recorded as a component of Selling, general and administrative expenses.
Employee Stock Purchase Plan
The Company maintains an Employee Stock Purchase Plan (“ESPP”(the “ESPP”), which is offered to eligible United States employees. The ESPP permitspreviously permitted participating employees to purchase Common Stock, throughwith after-tax payroll deductions, on a quarterly basis at a 15% discount from the lower of the closing price of the Common Stock on NASDAQ on the first or last business day of each fiscal quarter. Effective June 1, 2006, the Company amended the ESPP to provide that the 15% discount will be based solely on the closing price of the Common Stock on NASDAQ on the last business day of the fiscal quarter. During fiscal 2004, 20032006, 2005 and 2002,2004, the Company issued 121,256; 131,417;77,134 shares, 98,286 shares and 71,073121,256 shares of Common Stock under the ESPP at a weighted average price of $25.01, $25.54$28.08, $26.38 and $35.87$25.01 per share, respectively. At May 31, 2004,2006, there were 454,683274,186 shares of Common Stock authorized to be issued under the ESPP.
Management Stock Purchase Plan
The Company maintains a Management Stock Purchase Plan (“MSPP”), which allows certain members of senior management to defer up to 100% of their annual cash bonus payment in the form of restricted stock units (“RSUs”). The RSUs are purchased by the employee at a 25% discount from the lowest closing price of the Common Stock on NASDAQ during the fiscal quarter in which such bonuses are payable and are converted into shares of Common Stock on a one-for-one basis at the end of the applicable deferral period. Effective June 1, 2002, the MSPP was amended to increase the discount on the purchase of RSUs to 25% from 15%. During fiscal 2004, 20032006, 2005 and 2002,2004, the Company allocated 035,211 RSUs, 62,07113,171 RSUs and 45,3010 RSUs to participants under the MSPP at a weighted average price of $0, $25.22$26.64, $19.76 and $30.60$0 per RSU, respectively, resulting in an expense of $0.4,$0.3, $0.5 and $0.2,$0.4, respectively. Effective December 18, 2002,At May 31, 2006 there were 273,398 shares of Common Stock authorized for issuance under the MSPP was amended to allow certain additional management personnel to purchase RSU’s at a discount rate of 10%.MSPP.
10.9. EMPLOYEE BENEFIT PLANS
Pension Plans
The Company has a cash balance retirement plan (the “Pension Plan”), which covers the majority of United States employees who meet certain eligibility requirements. The Company funds all of the contributions for the Pension Plan. Benefits generally are based on the Company’s contributions and interest credits allocated to participantsparticipants’ accounts based on years of benefit service and annual pensionable earnings. It is the Company’s policy to fund the minimum amount required by the Employee Retirement Income Security Act (“ERISA”) of 1974, as amended.amended (“ERISA”).
Scholastic Ltd., an indirect subsidiary of Scholastic Inc.Corporation located in the United Kingdom, has a defined
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benefit pension plan (the “U.K. Pension Plan”) that covers its employees who meet various eligibility requirements. Benefits are based on years of service and on a percentage of compensation near retirement. The U.K. Pension Plan is funded by contributions from Scholastic Ltd. and its employees.
Grolier Ltd., an indirect subsidiary of Scholastic Inc.Corporation located in Canada, provides a defined benefit pension plan (the “Grolier Canada Pension Plan”) that covers its employees who meet certain eligibility requirements. All full time employees are eligible to participate in the plan after two years of employment. Grolier Ltd.’s contributions to the fund have been suspended due to an actuarial surplus. Employees are not required to contribute to the fund.
The Company’s pension plans have different measurement dates, as follows: for the Pension Plan – Plan—May 31, 2004;2006; for the U.K. Pension Plan and the Grolier Canada Pension Plan – Plan—March 31, 2004.2006.
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Post-Retirement Benefits
The Company provides Post-Retirement Benefitspost-retirement benefits to retired United States-based employees (the “Post-Retirement Benefits”) consisting of certain healthcare and life insurance benefits. A majority of these employees may become eligible for these benefits if they reach normal retirementafter completing certain minimum age while working for the Company. In fiscal 2004, the Company amended the Post-Retirement Benefits by changing the prescription drug co-pay schedule for Medicare-eligible participants to be the same as for non-Medicare eligible participants. The impact of this amendment was to reduce the benefit obligation by $2.8. In fiscal 2003, the Company amended the Post-Retirement Benefits by increasing the participants’ contribution rate. The impact of this amendment was to reduce the benefit obligation by $8.6. The balance of these two amendments was recorded as unrecognized priorand service cost and will be amortized over 141/2 years.requirements. At May 31, 2004,2006, the unrecognized prior service cost remaining was $10.1.$8.4.
The Medicare Prescription Drug, Improvement and Modernization Act (the “Medicare Act”) introduced a prescription drug benefit under Medicare (“Medicare Part D”) as well as a Federal subsidy of 28% to sponsors of retiree health care benefit plans providing a benefit that is at least actuarially equivalent to Medicare Part D. In response to the Medicare Act, the FASB issued Staff Position 106-2, “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003,” to provide additional disclosure and guidance in implementing the federal subsidy provided by the Medicare Act. Based on this guidance, the Company has determined that the Post-Retirement Benefits provided to the retiree population are in aggregate the actuarial equivalent of the benefits under Medicare. As a result, in fiscal 2006 and 2005, the Company recognized a reduction of its accumulated post-retirement benefit obligation of $9.2 and $3.2, respectively, due to the federal subsidy under the Medicare Act.
The following table sets forth the weighted average actuarial assumptions utilized to determine the benefit obligations for the Pension Plan, the U.K. Pension Plan and the Grolier Canada Pension Plan (collectively the “Pension Plans”), including the Post-Retirement Benefits, at May 31: 2004200320042003Weighted average assumptions used to
determine benefit obligations: Discount rate 6.5% 6.0% 6.7% 6.0% Rate of compensation increase 4.0% 4.0% — — Weighted average assumptions used to
determine net periodic benefit cost: Discount rate 6.0% 7.3% 6.0% 7.3% Expected long-term return on plan assets 8.9% 8.9% — — Rate of compensation increase 4.0% 4.0% — —
| Pension Plans | Benefits | |||||||||||
| 2006 | 2005 | 2006 | 2005 | |||||||||
| Weighted average assumptions used to | ||||||||||||
| determine benefit obligations: | ||||||||||||
| Discount rate | 5.9 | % | 5.3 | % | 6.1 | % | 5.3 | % | ||||
| Rate of compensation increase | 3.6 | % | 4.0 | % | — | — | ||||||
| Weighted average assumptions used to | ||||||||||||
| determine net periodic benefit cost: | ||||||||||||
| Discount rate | 5.3 | % | 6.5 | % | 5.3 | % | 6.7 | % | ||||
| Expected long-term return on plan assets | 8.7 | % | 8.8 | % | — | — | ||||||
| Rate of compensation | 3.6 | % | 4.0 | % | — | — | ||||||
To develop the expected long-term rate of return on assets assumption for its pension plans,the Pension Plans, the Company, with the assistance of its actuaries, considers historical returns and future expectations. Over the 15-20 year periods endingended May 31, 2003,2006, the returns on the portfolio, assuming it was invested at the current target asset allocation in the prior periods, would have been a compounded annual average of 10%-12%. Considering this information and the potential for lower future returns due to a generally lower interest rate environment, the Company selected an assumed weighted average long-term rate of return of 8.9%8.7% for all plans.of the Pension Plans.
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The following table sets forth changes in benefit obligation and plan assets, the reconciliation of funded status and the (decrease) increase in the minimum pension liability included in accumulatedAccumulated other comprehensive loss for the Pension Plans and the Post-Retirement Benefits for the two fiscal years ended May 31:
| 2006 | 2005 | 2006 | 2005 | |||||||||||||||||||||
| Change in benefit obligation | ||||||||||||||||||||||||
| Benefit obligation at beginning of year | $ | 158.0 | $ | 131.2 | $ | 36.2 | $ | 31.4 | ||||||||||||||||
| Service cost | 8.0 | 7.0 | 0.2 | 0.4 | ||||||||||||||||||||
| Interest cost | 8.3 | 8.3 | 1.8 | 2.0 | ||||||||||||||||||||
| Plan participants’ contributions | 0.4 | 0.4 | 0.2 | 0.2 | ||||||||||||||||||||
| Actuarial (gains) losses | (2.8 | ) | 18.6 | (4.7 | ) | 4.7 | ||||||||||||||||||
| Foreign currency exchange rate changes | 0.1 | 1.9 | — | — | ||||||||||||||||||||
| Benefits paid | (10.0 | ) | (9.4 | ) | (2.6 | ) | (2.5 | ) | ||||||||||||||||
| Benefit obligation at end of year | $ | 162.0 | $ | 158.0 | $ | 31.1 | $ | 36.2 | ||||||||||||||||
| Change in plan assets | ||||||||||||||||||||||||
| Fair value of plan assets at beginning of year | $ | 120.6 | $ | 114.7 | $ | — | $ | — | ||||||||||||||||
| Actual gain on plan assets | 13.1 | 10.6 | — | — | ||||||||||||||||||||
| Company contributions | 1.5 | 3.7 | 2.6 | 2.5 | ||||||||||||||||||||
| Plan participants’ contributions | 0.4 | 0.4 | 0.2 | 0.2 | ||||||||||||||||||||
| Administrative expenses | (1.1 | ) | (1.0 | ) | — | — | ||||||||||||||||||
| Foreign currency exchange rate changes | 0.2 | 1.6 | — | — | ||||||||||||||||||||
| Benefits paid | (10.0 | ) | (9.4 | ) | (2.8 | ) | (2.7 | ) | ||||||||||||||||
| Fair value of plan assets at end of year | $ | 124.7 | $ | 120.6 | $ | — | $ | — | ||||||||||||||||
| Funded status | ||||||||||||||||||||||||
| Underfunded status of the plans | $ | (37.3 | ) | $ | (37.4 | ) | $ | (31.1 | ) | $ | (36.2 | ) | ||||||||||||
| Unrecognized net actuarial loss | 43.4 | 53.4 | 19.3 | 25.6 | ||||||||||||||||||||
| Unrecognized prior service cost | (1.3 | ) | (1.6 | ) | (8.4 | ) | (9.2 | ) | ||||||||||||||||
| Unrecognized net asset obligation | — | 0.1 | — | — | ||||||||||||||||||||
| Accrued benefit asset (liability) | $ | 4.8 | $ | 14.5 | $ | (20.2 | ) | $ | (19.8 | ) | ||||||||||||||
| Amounts recognized in the Consolidated | ||||||||||||||||||||||||
| Balance Sheets | ||||||||||||||||||||||||
| Prepaid benefit cost | $ | 4.8 | $ | 14.5 | $ | — | $ | — | ||||||||||||||||
| Accrued benefit liability | (28.7 | ) | (40.7 | ) | (20.2 | ) | (19.8 | ) | ||||||||||||||||
| Intangible asset | 0.1 | 0.1 | — | — | ||||||||||||||||||||
| Accumulated other comprehensive loss | 28.6 | 40.6 | — | — | ||||||||||||||||||||
| Net amount recognized | $ | 4.8 | $ | 14.5 | $ | (20.2 | ) | $ | (19.8 | ) | ||||||||||||||
| Decrease (increase) in minimum liability included | ||||||||||||||||||||||||
| in other comprehensive income | $ | 12.0 | $ | (14.6 | ) | $ | — | $ | — | |||||||||||||||
2004 2003 2004 2003 Change in benefit obligation Benefit obligation at beginning of year $ 131.2 $ 111.6 $ 28.8 $ 23.4 Service cost 7.0 5.9 0.5 0.5 Interest cost 7.7 7.7 2.0 1.8 Plan participants’ contributions 0.5 0.6 — — Amendments — 0.2 (2.8) (8.6) Actuarial (gains) losses (7.2) 11.8 5.5 13.9 Foreign currrency exchange rate changes 3.2 2.3 — — Benefits paid (11.2) (8.9) (2.6) (2.2) Benefit obligation at end of year $131.2 $131.2 $ 31.4 $ 28.8 Change in plan assets Fair value of plan assets at beginning of year $ 88.9 $ 87.3 $ — $ — Actual gain (loss) on plan assets 15.8 (2.3) — — Company contributions 19.4 11.0 — — Plan participants’ contributions 0.5 0.4 — — Administrative expenses (0.9) (0.8) — — Foreign currrency exchange rate changes 2.2 2.2 — — Benefits paid (11.2) (8.9) — — Fair value of plan assets at end of year $114.7 $ 88.9 $ — $ — Funded status Underfunded status of the plans $ (16.5) $ (42.3) $ (31.4) $ (28.8) Unrecognized net actuarial loss 37.7 54.0 22.4 18.9 Unrecognized prior service cost (1.8) (2.1) (10.1) (8.1) Unrecognized net asset obligation 0.2 0.4 — — Accrued benefit asset (liability) $ 19.6 $ 10.0 $(19.1) $(18.0) Amounts recognized in the Consolidated Balance Sheets Prepaid benefit cost $ 19.6 $ 8.8 $ — $ — Accrued benefit liability (26.1) (43.3) (19.1) (18.0) Intangible asset 0.1 0.1 — — Accumulated other comprehensive loss 26.0 43.2 — — Net amount recognized $ 19.6 $ 8.8 $(19.1) $(18.0) (Decrease) increase in minimum liability included
in other comprehensive income $ (17.2) $ 21.4 $ — $ —
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The accumulated benefit obligation for allthe Pension Plans was $123.3$149.4 and $125.5$148.4 at May 31, 20042006 and 2003,2005, respectively. InformationThe following table sets forth information with respect to the Pension Plans with accumulated benefit obligations in excess of plan assets is as follows for the fiscal years ended May 31: 2004 2003 Projected benefit obligations $ 124.0 $ 124.9 Accumulated benefit obligations 117.0 118.9 Fair value of plan assets 106.6 81.7
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| 2006 | 2005 | |||||||
| Projected benefit obligations | $ | 153.9 | $ | 150.1 | ||||
| Accumulated benefit obligations | 142.3 | 141.6 | ||||||
| Fair value of plan assets | 115.7 | 112.1 | ||||||
The following table sets forth the components of the net periodic benefit costs under the Pension Plans and the Post-Retirement Benefits for the three fiscal years ended May 31:
| 2006 | 2005 | 2004 | 2006 | 2005 | 2004 | ||||||||||||||||||||||
| Components of Net Periodic Benefit Cost: | |||||||||||||||||||||||||||
| Service cost | $ | 8.0 | $ | 7.0 | $ | 7.0 | $ | 0.2 | $ | 0.4 | $ | 0.4 | |||||||||||||||
| Interest cost | 8.3 | 8.3 | 7.7 | 1.8 | 2.0 | 2.0 | |||||||||||||||||||||
| Expected return on assets | (8.8 | ) | (8.7 | ) | (8.0 | ) | — | — | — | ||||||||||||||||||
| Net amortization and deferrals | 0.2 | 0.2 | 0.3 | 1.0 | 0.8 | 1.2 | |||||||||||||||||||||
| Decrease in valuation allowance | — | — | (1.2 | ) | — | — | — | ||||||||||||||||||||
| Recognized net actuarial loss | 3.7 | 2.3 | 2.5 | — | — | — | |||||||||||||||||||||
| Net periodic benefit cost | $ | 11.4 | $ | 9.1 | $ | 8.3 | $ | 3.0 | $ | 3.2 | $ | 3.6 | |||||||||||||||
2004 2003 2002 2004 2003 2002 Components of Net Periodic Benefit Cost: Service cost $ 7.0 $ 5.9 $ 4.7 $ 0.4 $ 0.5 $ 0.4 Interest cost 7.7 7.7 7.4 2.0 1.8 1.3 Expected return on assets (8.0) (8.6) (8.8) — — — Net amortization and deferrals 0.3 0.1 (0.2) (0.8) (0.6) — Curtailment loss — — 0.2 — — — Decrease in valuation allowance (1.2) — — — — — Recognized net actuarial loss 2.5 1.2 0.5 2.0 1.0 — Net periodic benefit cost $ 8.3 $ 6.3 $ 3.8 $ 3.6 $ 2.7 $ 1.7
Plan Assets
The Company’s investment policy with regard to the assets in the Pension Plans is to actively manage, within acceptable risk parameters, certain asset classes where the potential exists to outperform the broader market.
The following table sets forth the total weighted average asset allocations for the Pension Plans at May 31 by asset category are as follows: 2004 2003 Small cap equities 17.0% 17.4% International equities 9.2 10.0 Index fund equities 44.5 42.7 Bonds and fixed interest products 27.0 28.4 Real estate 0.1 — Other 2.2 1.5 Total 100.0% 100.0%
| 2006 | 2005 | |||||
| Small cap equities | 12.1 | % | 16.6 | % | ||
| International equities | 13.8 | 9.8 | ||||
| Index fund equities | 41.3 | 44.0 | ||||
| Bonds and fixed interest products | 31.8 | 29.0 | ||||
| Real estate | 0.9 | 0.5 | ||||
| Other | 0.1 | 0.1 | ||||
| 100.0 | % | 100.0 | % | |||
The Company’s investments includefollowing table sets forth the weighted average target asset allocations as follows:for the Pension Plans included in the Company’s investment policy:
Grolier | |||||||||
U.K. | Canada | ||||||||
Pension | Pension | Pension | |||||||
Plan | Plan | Plan | |||||||
| Equity | 65.0 | % | 68.0 | % | 35.0 | % | |||
| Debt and Cash Equivalents | 35.0 | 25.0 | 65.0 | ||||||
| Real Estate | — | 7.0 | — | ||||||
| 100.0 | % | 100.0 | % | 100.0 | % | ||||
Grolier U.K. Canada Pension Pension Pension Plan Plan Plan Equity 70.0% 68.0% 35.0% Debt and cash equivalents 30.0 25.0 65.0 Real estate — 7.0 — Total 100.0% 100.0% 100.0%
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Contributions
In fiscal 2007, the Company expects to contribute $8.4 to the Pension Plan and Scholastic Ltd. expects to contribute $0.8$1.1 to the U.K. Pension Plan and Scholastic expects to contribute $2.5 to its Post-Retirement Benefits in 2005.Plan.
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Estimated Future Benefit Payments
The following table sets forth the expected future benefit payments under the Pension Plans and the Post-Retirement Benefits by fiscal year:
| Medicare | |||||||||||
| Pension | Benefit | Subsidy | |||||||||
| Benefits | Payments | Receipts | |||||||||
| 2007 | $ | 11.3 | $ | 2.7 | $ | 0.4 | |||||
| 2008 | 10.4 | 2.8 | 0.4 | ||||||||
| 2009 | 11.1 | 2.9 | 0.5 | ||||||||
| 2010 | 10.7 | 3.0 | 0.5 | ||||||||
| 2011 | 10.5 | 3.1 | 0.5 | ||||||||
| 2012-2016 | 54.8 | 15.7 | 2.7 | ||||||||
| Assumed health care cost trend ratesat May 31: | |||||||||||
| 2006 | 2005 | ||||||||||
| Health care cost trend rate assumed for | |||||||||||
| the next fiscal year | 9.0 | % | 11.0 | % | |||||||
| Rate to which the cost trend is assumed | |||||||||||
| to decline (the ultimate trend rate) | 5.0 | % | 5.0 | % | |||||||
| Year that the rate reaches the ultimate trend rate | 2012 | 2012 | |||||||||
Medicare Pension Benefit Subsidy Benefits Payments Receipts 2005 $ 7.8 $ 2.5 $ — 2006 7.6 2.6 0.1 2007 8.6 2.7 0.3 2008 8.5 2.8 0.3 2009 8.9 2.9 0.3 2010-2014 42.1 14.8 1.7
The 2003 Medicare Act introduced a prescription drug benefit under Medicare (Medicare Part D) as well as a federal subsidy of 28% to sponsors of retiree health care benefit plans that provide a benefit that is at least actuarially equivalent to the benefit under Medicare Part D. In May 2004, the FASB issued FSP 106-2 to provide disclosure requirements and guidance in accounting for the impact of the federal subsidy provided by the 2003 Medicare Act. Based on this guidance, the Company has determined that the Post-Retirement Benefits provided to the portion of its post-65 retiree population that have retained a 100% Company-sponsored prescription drug coverage, are the actuarial equivalent of the benefits under Medicare. As a result, in fiscal 2004, the Company recognized a reduction of its accumulated post-retirement benefit obligation of $3.9 due to the federal subsidy under the 2003 Medicare Act. Pending any changes to the 2003 Medicare Act of the law, the effect of the subsidy on the measurement of net periodic Post-Retirement Benefits for the current period was a reduction of $0.3.
Assumed health care cost trend rates at May 31: 2004 2003 Health care cost trend rate assumed for the next fiscal year 11.0% 10.0% Rate to which the cost trend is assumed to decline (the ultimate trend rate) 5.0% 5.0% Year that the rate reaches the ultimate trend rate 2013 2013
Assumed health care cost trend rates have a significant effect on the amounts reported for the Company’s health care plans. A one percentage point change in assumed health care cost trend rates would have the following effects:
| 2006 | 2005 | ||||||||
| Total service and interest cost | $ | 0.2 | $ | 0.2 | |||||
| Post-retirement benefit obligation | 2.5 | 3.1 | |||||||
Defined Contribution Plans Increase (Decrease) Total service and interest cost $ 0.2 $ (0.1) Post-retirement benefit obligation 2.3 (1.5)
The Company also provides defined contribution plans for certain eligible employees. In the United States, the Company sponsors a 401(k) retirement plan and has contributed $5.9, $5.8$6.8, $6.2 and $4.7$5.9 for fiscal 2004, 20032006, 2005 and 2002,2004, respectively. For its internationally-based employees, the expensescontributions under these plans totaled $2.3, $1.9$6.1, $4.6 and $1.4$2.3 for fiscal 2006, 2005 and 2004, 2003 and 2002, respectively.
56
11.10. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per share for the threefiscal years ended May 31:
| 2006 | 2005 | 2004 | |||||||
| Net income for basic and | |||||||||
| diluted earnings per share | $ | 68.6 | $ | 64.3 | $ | 57.8 | |||
| Weighted average Shares of Class A | |||||||||
| Stock and Common Stock | |||||||||
| outstanding for basic earnings | |||||||||
| per share | 41.6 | 40.0 | 39.4 | ||||||
| Dilutive effect of Common Stock issued | |||||||||
| pursuant to stock-based | |||||||||
| benefit plans | 0.6 | 0.8 | 0.7 | ||||||
| Adjusted weighted average Shares | |||||||||
| of Class A Stock and Common | |||||||||
| Stock outstanding for diluted | |||||||||
| earnings per share | 42.2 | 40.8 | 40.1 | ||||||
| Earnings per share of Class A Stock | |||||||||
| and Common Stock: | |||||||||
| Basic | $ | 1.65 | $ | 1.61 | $ | 1.47 | |||
| Diluted | $ | 1.63 | $ | 1.58 | $ | 1.44 | |||
11. COST OF GOODS SOLD—REFERENCE SETS(Amounts in millions, except per share data) 2004 2003 2002 Net income for basic earningsper share $ 58.4 $ 58.6 $ 93.5 Dilutive effect of Debentures — — 2.1 Adjusted net income for dilutedearnings per share $ 58.4 $ 58.6 $ 95.6 Weighted average Shares of Class A Stock and Common Stock outstanding for basic earnings per share 39.4 39.1 36.7 Dilutive effect of Common Stock issued pursuant to stock-based benefit plans 0.7 1.0 1.6 Dilutive effect of Debentures — — 1.8 Adjusted weighted average Shares of Class A Stock and Common Stock outstanding for diluted earnings per share 40.1 40.1 40.1 Earnings per share of Class A Stock and Common Stock: Earnings before Cumulative effect of accounting change: Basic $ 1.48 $ 1.50 $ 2.69 Diluted $ 1.46 $ 1.46 $ 2.51 Cumulative effect of accounting change (net of income taxes): Basic $ — $ — $ (0.14) Diluted $ — $ — $ (0.13) Net income: Basic $ 1.48 $ 1.50 $ 2.55 Diluted $ 1.46 $ 1.46 $ 2.38
On January 11, 2002, pursuant to the exercise of Scholastic Corporation’s optional redemption rights, $109.8 of Scholastic Corporation’s 5% Convertible Subordinated Debentures were converted at the option of the holders into 2.9 million shares of Common Stock and $0.2 were redeemed for cash.
12. CUMULATIVE EFFECT OF ACCOUNTING CHANGE
On June 1, 2001, the Company adopted Statement of Position No. 00-2 (“SOP 00-2”), “Accounting by Producers and Distributors of Films.” SOP 00-2 provides that film costs should be accounted for under an inventory model and discusses various topics such as revenue recognition and accounting for exploitation costs and impairment assessment. In addition, SOP 00-2 establishes criteria for which revenues should be included in the Company’s ultimate revenue projections. As a result of the adoption of SOP 00-2,fiscal 2006, the Company recorded a net of tax charge of $5.2 in the first quarter of fiscal 2002 to reduce the carrying value of its film production costs. This charge is reflected in the Company’s consolidated statements of operations as a Cumulative effect of accounting change and is attributed entirelypre-tax costs primarily related to the Media, Licensing and Advertising segment.accelerated amortization of prepublication costs of $3.2, or $0.05 per diluted share, in connection with its decision not to update certain print versions of reference sets.
12. BAD DEBT EXPENSE—EDUCATIONAL PUBLISHING
In fiscal 2006, the Company recorded bad debt expense totaling of $2.9, or $0.04 per diluted share, related to the bankruptcy of a for-profit educational services customer.
13. SPECIAL SEVERANCE CHARGES
OnIn May 28, 2003, the Company announced a reduction in its global work force. The majority of the affected employees were notified in the fiscal year ended May 31, 2003, and accordingly the Company established liabilities for severance and other related costs of $10.9 for that fiscal year.2003. In the fiscal year ended May 31, 2004, the Company established additional liabilities of $3.3 for severance and other related costs with respect to the affected employees notified in that fiscal year. These charges areyear, which is reflected in the Company’s income statement as the Special severance charges for the yearsyear ended May 31, 2003 and2004. As of May 31, 2004.
A summary2006, substantially all of the activity in the established liabilities is detailed in the following table:
| ||||||
58
57
The remaining liability of $2.1 is expected to be paid over the next two fiscal years under salary continuance arrangements with certain affected employees.
14. LITIGATION AND OTHER CHARGES
In fiscal 2003, the Company recorded a pre-tax charge of $1.9 for the settlement of a class action securities lawsuit initiated in 1997, which represented the portion of the total settlement amount of $7.5 that was not paid by the insurance carrier.
In fiscal 2003, the Company recorded a pre-tax charge of $1.2, related to the settlement of a lawsuit filed in 1995, which represents the amount by which the settlement and related legal expenses exceeded a previously recorded liability.
15. OTHER INCOME (EXPENSE)
In the fourth quarter of fiscal 2004, the Company received a payment of $10.0 in connection with the early termination of a sublease by one of its tenants. This transaction resulted in a pre-tax net gain of $8.0. The impact of this gain on earnings per diluted share was $0.13.
In fiscal 2003, the Company sold a portion of its interest in a French publishing company for $5.2, resulting in a pre-tax gain of $2.9. The impact of this gain on earnings per diluted share was $0.05.
In fiscal 2002, the Company wrote off an equity investment of $2.0. The impact of this charge on earnings per diluted share was $0.03.
16.15. CONTINUITY CHARGES
In fiscal 2004, the Company recorded pre-tax charges of $25.4 related toin connection with a review of its continuity business. These continuity charges represent write-downs of deferred promotion costs of $12.7 and inventory from discontinued programs of $6.8, and an increase in bad debts of $2.0, as well as modest increases in returns provisions and related severance costs. These charges are primarily reflected as Cost of Goods Sold;goods sold; Selling, general and administrative expenses; and Bad debt expense. TheIn fiscal 2004, the impact of this chargethese charges on earnings per diluted share was $0.41. In fiscal 2005, the Company recorded additional pre-tax charges of $3.8, or $0.06 per diluted share, primarily for severance costs due to the prior year review of its continuity business, which are reflected as Selling, general and administrative expenses.
17.16. OTHER FINANCIAL DATA
Deferred promotion costs were $40.6$49.8 and $52.8$38.6 at May 31, 20042006 and 2003,2005, respectively. Promotion costs expensed were $119.2, $109.1$85.5, $81.1 and $94.5$119.2 for the fiscal years ended May 31, 2004, 20032006, 2005 and 2002,2004, respectively. Promotional expense consists of $111.1, $99.9$77.9, $73.9 and $88.0$111.1 for continuity program promotions and $8.1, $9.2$7.6, $7.2 and $6.5$8.1 for magazine advertising for fiscal 2004, 20032006, 2005 and 2002,2004, respectively.
Other advertising expenses were $160.1, $161.4$160.5, $156.5 and $164.2$160.1 for the fiscal years ended May 31, 2004, 20032006, 2005 and 2002,2004, respectively.
Accumulated amortization of prepublicationPrepublication costs was $77.8were $115.9 and $76.3$120.2 at May 31, 20042006 and 2003,2005, respectively. The Company amortized $50.9, $53.9 and $57.8 $47.5 and $42.6of prepublication costs for the fiscal years ended May 31, 2004, 20032006, 2005 and 2002,2004, respectively.
Other accrued expenses include a reserve for unredeemed credits issued in conjunction with the Company’s school-based book club and book fair operations of $12.5$11.9 and $12.4$11.6 at May 31, 20042006 and 2003,2005, respectively.
5859
Report of Independent Registered Public Accounting Firm
THE BOARD OF DIRECTORS AND STOCKHOLDERS
OF SCHOLASTIC CORPORATION
We have audited the accompanying consolidated balance sheets of Scholastic Corporation (the “Company”) as of May 31, 20042006 and 2003,2005, and the related consolidated statements of income, changes in stockholders’ equity and comprehensive income and cash flows for each of the three years in the period ended May 31, 2004.2006. Our audits also included the financial statement schedule listedincluded in the Index at Item 15(a). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted theour audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of the CompanyScholastic Corporation at May 31, 20042006 and 20032005, and the consolidated results of its operations and its cash flows for each of the three years in the period ended May 31, 20042006, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statementstatements schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. As discussed
We also have audited, in Note 12accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Scholastic Corporation’s internal control over financial reporting as of May 31, 2006, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated August 4, 2006 expressed an unqualified opinion thereon.
Ernst & Young LLP
New York, New York
August 4, 2006
60
Report of Independent Registered Public Accounting Firm
THE BOARD OF DIRECTORS AND STOCKHOLDERS
OF SCHOLASTIC CORPORATION
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that Scholastic Corporation maintained effective internal control over financial reporting as of May 31, 2006 based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Scholastic Corporation’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the consolidatedmaintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, management’s assessment that the Scholastic Corporation maintained effective June 1, 2001internal control over financial reporting as of May 31, 2006 is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, Scholastic Corporation maintained, in all material respects, effective internal control over financial reporting as of May 31, 2006 based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company changed its accountingAccounting Oversight Board (United States), the consolidated balance sheets of Scholastic Corporation as of May 31, 2006 and 2005 and the related consolidated statements of income, changes in stockholders’ equity and comprehensive income, and cash flows for production costseach of the three years in the period ended May 31, 2006 and recorded a cumulative effect of accounting change of $5.2 million.our report dated August 4, 2006 expressed an unqualified opinion thereon.
Ernst & Young LLP
New York, New York
August 4, 2006July 20, 2004
61
59
Supplementary Financial Information
Summary of Quarterly Results of Operations (Unaudited, amounts in millions except per share data) Years ended May 31, | ||||||||||||||||||||||||||||||||
| Supplementary Financial Information | Supplementary Financial Information | |||||||||||||||||||||||||||||||
| First | Second | Third | Fourth | Summary of Quarterly Results of Operations | ||||||||||||||||||||||||||||
| Quarter | Quarter | Quarter | Quarter | (1) | Year | (Unaudited, amounts in millions except per share data) | ||||||||||||||||||||||||||
| 2004 | ||||||||||||||||||||||||||||||||
| Fiscal | ||||||||||||||||||||||||||||||||
| Revenues | $ 475.4 | $ 699.0 | $ 472.0 | $ 587.4 | $ 2,233.8 | |||||||||||||||||||||||||||
| Cost of goods sold | 281.4 | 305.5 | 229.7 | 263.4 | 1,080.0 | |||||||||||||||||||||||||||
| Cost of goods sold – Continuity charges | — | — | — | 6.8 | 6.8 | |||||||||||||||||||||||||||
| Net income (loss) | (24.8) | 66.7 | (6.0) | 22.5 | 58.4 | |||||||||||||||||||||||||||
| Earnings (loss) per share: | ||||||||||||||||||||||||||||||||
| Basic | $ (0.63) | $ 1.70 | $ (0.15) | $ 0.57 | $ 1.48 | |||||||||||||||||||||||||||
| Diluted | $ (0.63) | $ 1.67 | $ (0.15) | $ 0.56 | $ 1.46 | |||||||||||||||||||||||||||
| Year | ||||||||||||||||||||||||||||||||
| 2003 | ||||||||||||||||||||||||||||||||
| Fourth | Ended | |||||||||||||||||||||||||||||||
| Quarter(2)(3)(4) | May 31, | |||||||||||||||||||||||||||||||
2006 | ||||||||||||||||||||||||||||||||
| Revenues | $ 306.9 | $ 660.3 | $ 433.7 | $ 557.4 | $ 1,958.3 | $ | 498.4 | $ | 696.7 | $ | 487.7 | $ | 601.0 | $ | 2,283.8 | |||||||||||||||||
| Cost of goods sold | 160.2 | 281.8 | 198.3 | 241.8 | 882.1 | 293.0 | 302.0 | 244.6 | 263.5 | 1,103.1 | ||||||||||||||||||||||
| Net income (loss) | (44.6) | 75.0 | (0.5) | 28.7 | 58.6 | (21.2 | ) | 66.9 | (15.5 | ) | 38.4 | 68.6 | ||||||||||||||||||||
| Earnings (loss) per share: | ||||||||||||||||||||||||||||||||
| Earnings (loss) per share of Class A | ||||||||||||||||||||||||||||||||
| and Common Stock: | ||||||||||||||||||||||||||||||||
Basic(5) | $ | (0.52 | ) | $ | 1.61 | $ | (0.37 | ) | $ | 0.92 | $ | 1.65 | ||||||||||||||||||||
Diluted(5) | $ | (0.52 | ) | $ | 1.58 | $ | (0.37 | ) | $ | 0.91 | $ | 1.63 | ||||||||||||||||||||
2005 | ||||||||||||||||||||||||||||||||
| Revenues | $ | 323.7 | $ | 683.3 | $ | 480.8 | $ | 592.1 | $ | 2,079.9 | ||||||||||||||||||||||
| Cost of goods sold | 176.8 | 304.5 | 236.5 | 261.2 | 979.0 | |||||||||||||||||||||||||||
| Net income (loss) | (50.5 | ) | 72.5 | (0.8 | ) | 43.1 | 64.3 | |||||||||||||||||||||||||
| Earnings (loss) per share of Class A | ||||||||||||||||||||||||||||||||
| and Common Stock: | ||||||||||||||||||||||||||||||||
| Basic | $ (1.14) | $ 1.92 | $ (0.01) | $ 0.73 | $ 1.50 | $ | (1.28 | ) | $ | 1.83 | $ | (0.02 | ) | $ | 1.06 | $ | 1.61 | |||||||||||||||
| Diluted | $ (1.14) | $ 1.85 | $ (0.01) | $ 0.72 | $ 1.46 | $ | (1.28 | ) | $ | 1.80 | $ | (0.02 | ) | $ | 1.03 | $ | 1.58 | |||||||||||||||
| Certain prior year period amounts have been reclassified to conform with the current year presentation. | Certain prior year period amounts have been reclassified to conform with the current year presentation. | |||||||||||||||||||||||||||||||
| (1) | The | |
| (2) | The third and | |
| (3) | The fourth quarter of fiscal | |
| (4) | The fourth quarter of fiscal 2005 includes additional pre-tax charges of $0.2 in connection with the Company’s prior year review of its continuity business. | |
| (5) | The Company has restated certain earnings per share information included in its previously issued fiscal 2006 interim consolidated financial statements to correct calculation errors. The restatement resulted in a | |
Item 9 | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
62
The Chief Executive Officer and Chief Financial Officer of the Corporation, after conducting an evaluation, together with other members of the Company’s management, of the effectiveness of the design and operation of the Corporation’s disclosure controls and procedures as of the end of the period covered by this report,May 31, 2006, have concluded that the Corporation’s disclosure controls and procedures were effective to ensure that information required to be disclosed by the Corporation in its reports filed or submitted under the Securities Exchange Act of 1934 (the “Exchange Act”) is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the SEC.SEC and accumulated and communicated to members of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure.
The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting for the Corporation. A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. The Corporation’s Chief Executive Officer and Chief Financial Officer, after conducting an evaluation, together with other members of Scholastic management, of the effectiveness of the Corporation’s internal control over financial reporting based on the framework inInternal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission, concluded that the Corporation’s internal control over financial reporting was effective as of May 31, 2006.
Ernst & Young LLP, an independent registered public accounting firm, has issued an attestation report on this assessment of the effectiveness of the Corporation’s internal control over financial reporting as of May 31, 2006, which is included herein. There was no change in the Corporation’s internal control over financial reporting that occurred during the quarter ended May 31, 20042006 that has materially affected, or is reasonably likely to materially affect, the Corporation’s internal control over financial reporting.reporting, except that the Corporation implemented a new computer-based order entry, customer service, accounts receivable and collection system for certain of the Company’s operations and, in connection with this implementation, designed and put into place new automated and manual internal control procedures to obtain reasonable assurance that sales transactions processed through the new system would be recorded in accordance with generally accepted accounting principles.
Item 9B | Other Information
None.
60
Item 10 | Directors and Executive Officers of the Registrant
Information required by this item is incorporated herein by reference from the Corporation’s definitive proxy statement to be filed with the SEC pursuant to Regulation 14A under the Exchange Act. Certain information regarding the Corporation’s Executive Officers is set forth in Part I – Item 1 – Business.
Item 11 | Executive Compensation
Incorporated herein by reference from the Corporation’s definitive proxy statement to be filed pursuant to Regulation 14A under the Exchange Act.
Item 12 | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Incorporated herein by reference from the Corporation’s definitive proxy statement to be filed pursuant to Regulation 14A under the Exchange Act.
The additional information required by this item is incorporated herein by reference from the Corporation’s definitive proxy statement to be filed pursuant to Regulation 14A under the Exchange Act.
Item 1213 | Security Ownership of Certain Beneficial Owners and ManagementRelationships and Related Stockholder MattersTransactions
Incorporated herein by reference from the Corporation’s definitive proxy statement to be filed pursuant to Regulation 14A under the Exchange Act.
Item 1314 | Certain RelationshipsPrincipal Accountant Fees and Related TransactionsServices
Incorporated herein by reference from the Corporation’s definitive proxy statement to be filed pursuant to Regulation 14A under the Exchange Act.
Item 14 | Principal Accountant Fees and Services
Incorporated herein by reference from the Corporation’s definitive proxy statement to be filed pursuant to Regulation 14A under the Exchange Act.64
Part IV
Item 15 | Exhibits, Financial Statement Schedules and Reports on Form 8-K
| (a)(1) | Financial Statements: | ||
| The following consolidated financial statements are included in Part II, Item 8, “Consolidated Financial | |||
| Statements and Supplementary Data”: | |||
| Consolidated Statements of Income for the years ended May 31, | 2004 | ||
| Consolidated Balance Sheets at May 31, | 2005 | ||
| Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive Income for the years | |||
| ended May 31, | 2004 | ||
| Consolidated Statements of Cash Flows for the years ended May 31, | 2004 | ||
| Notes to Consolidated Financial Statements | |||
| (a)(2) and (c) | Financial Statement Schedule: | ||
| The following consolidated financial statement schedule is included | |||
| Valuation and Qualifying Accounts and Reserves | |||
| All other schedules have been omitted since the required information is not present or is not present in | |||
| amounts sufficient to require submission of the schedule, or because the information required is included | |||
| in the Consolidated Financial Statements or the Notes thereto. | |||
(a)(3) and (b) | Exhibits: | ||
| 3.1 | Amended and Restated Certificate of Incorporation of the Corporation, as amended to | ||
| reference to the Corporation’s Annual Report on Form 10-K as filed with the SEC on August 2, 2004). | |||
61
| 3.2 | Bylaws of the Corporation, amended and restated as of March 16, 2000 (incorporated by reference to the | |
| Corporation’s Quarterly Report on Form 10-Q as filed with the SEC on April 14, | ||
| 19860). | ||
| 4.1* | Credit Agreement, dated as of March 31, 2004, among the Corporation and Scholastic Inc., as borrowers, | |
| the Initial Lenders named therein, Citibank, N.A., as administrative agent, Citigroup Global Markets Inc. | ||
| and J.P. Morgan Securities Inc., as joint lead arrangers, and JPMorgan Chase Bank, N.A. and Fleet Bank, | ||
| N.A., as syndication | ||
| 4.2* | Amended and Restated Revolving Loan Agreement, dated November 10, 1999, among the Corporation, | |
| Scholastic Inc. and Sun Bank, National Association, together with Amendment No. 1, dated June 22, 2000, | ||
| and Amendment No. 2, dated as of April 30, 2004. | ||
| 4.3 | Indenture dated January 23, 2002 for 5.75% Notes due January 15, 2007 issued by the Corporation | |
| (incorporated by reference to the Corporation’s Registration Statement on Form S-3 (Registration No. | ||
| 55238) as filed with the SEC on February 8, 2001). | ||
65
| 4.4* | Indenture dated April 4, 2003 for 5% Notes due 2013 issued by the Corporation. | ||
| 10.1** | |||
| Scholastic Corporation 1995 Stock Option Plan, effective as of September 21, 1995 (incorporated by | |||
| reference to the Corporation’s Registration Statement on Form S-8 (Registration No. 33-98186) as filed | |||
| with the SEC on October 16, 1995), together with Amendment No. 1, | |||
| (incorporated by reference to the Corporation’s Quarterly Report on Form 10-Q as filed with the SEC on | |||
| October 15, 1998, SEC File No. 000-19860), | |||
| by reference to the | |||
| Scholastic Corporation Management Stock Purchase Plan, amended and restated effective as of | |||
| 2005. | |||
| Scholastic Corporation 1997 Outside Directors’ Stock Option Plan, amended and restated as of May 25, | |||
| 1999 (incorporated by reference to the Corporation’s Annual Report on Form 10-K as filed with the SEC on | |||
| August 23, | |||
| September 20, 2001 | |||
| with the SEC on January 14, 2002) | |||
| reference to Appendix B to the Corporation’s definitive Proxy Statement as filed with the SEC on August | |||
| 19, 2003) | |||
62
| Scholastic Corporation | ||
| 2005 (incorporated by reference to the Corporation’s | ||
| on | ||
| Scholastic Corporation Executive Performance Incentive Plan, effective as of June 1, 1999 (incorporated by | ||
| reference to the Corporation’s Quarterly Report on Form 10-Q as filed with the SEC on October 15, | ||
| SEC File No. 19860). | ||
| Scholastic Corporation 2001 Stock Incentive Plan (incorporated by reference to Appendix A of the | ||
| Corporation’s definitive Proxy Statement as filed with the SEC on August 24, 2001) | ||
| Amendment No. 1, effective as of May 25, 2006. | ||
| Scholastic Corporation 2004 Class A Stock Incentive Plan (incorporated by reference to Appendix A to | ||
| Scholastic Corporation’s definitive Proxy Statement as filed with the SEC on August 2, 2004), together with | ||
| Amendment No. 1, effective as of May 25, 2006. | ||
| 10.8 | Amended and Restated Lease, effective as of August 1, 1999, between ISE 555 Broadway, LLC, landlord, | |
| and Scholastic Inc., tenant, for the building known as 555 Broadway, NY, NY (incorporated by reference to | ||
| the | ||
| 10.9 | Amended and Restated Sublease, effective as of October 9, 1996, between Kalodop Corp., as sublandlord, | |
| and Scholastic Inc., as subtenant, for the premises known as 557 Broadway, NY, NY (incorporated by | ||
| reference to the 1999 10-K). | ||
| 10.10** | Agreement between Mary A. Winston and Scholastic Inc. dated August 5, 2005, with regard to certain | |
| severance arrangements (incorporated by reference to the Corporation’s Annual Report on Form 10-K as | ||
| filed with the SEC on August | ||
66
| 10.11** | Form of Class A Option Agreement under the Class A Plan (incorporated by reference to the 2005 10-K). | ||
| 10.12** | Form of Stock Unit Agreement under the 2001 Plan (incorporated by reference to the 2005 10-K). | ||
| 10.13** | Guidelines for Stock Units adopted under the 2001 Plan (incorporated by reference to the 2005 10-K). | ||
| 10.14** | Deferred Compensation Agreement between Scholastic Inc. and Ernest Fleishman, as amended and | ||
| restated effective January 1, 2005 (incorporated by reference to the Corporation’s Quarterly Report on | |||
| Form 10-Q as filed with the SEC on April 7, 2006). | |||
| 10.15** | Agreement between Lisa Holton and Scholastic Inc. dated August 2, 2006, with regard to certain | ||
| severance arrangements. | |||
| 21 | Subsidiaries of the Corporation. | ||
| 23 | Consent of Ernst & Young LLP. | ||
| 31.1 | Certification of the Chief Executive Officer of the Corporation filed pursuant to Section 302 of the | ||
| Oxley Act of 2002. | |||
| 31.2 | Certification of the Chief Financial Officer of the Corporation filed pursuant to Section 302 of the | ||
| Oxley Act of 2002. | |||
| 32 | Certifications of the Chief Executive Officer and the Chief Financial Officer of the Corporation furnished | ||
| pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | |||
| * | Such long-term debt does not individually amount to more than 10% of the total assets of the Corporation and its subsidiaries on a consolidated basis. Accordingly, pursuant to Item 601(b)(4)(iii) of Regulation S-K, such instrument is not filed herewith. The Corporation hereby agrees to furnish a copy of any such instrument to the SEC upon request. | ||
| ** | The referenced exhibit is a management contract or compensation plan or arrangement described in Item 601(b) (10) (iii) of Regulation S-K. | ||
67
63Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| Dated: August 8, 2006 | SCHOLASTIC CORPORATION | |
| By: /s/ Richard Robinson | ||
| Richard Robinson, Chairman of the Board, | ||
| President and Chief Executive Officer |
Power of Attorney
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Richard Robinson his or her true and lawful attorney-in-fact and agent, with power of substitution and resubstitution, for him or her and in his or her name, place and stead, in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorney-in-fact and agent full power and authority to do and perform each and every act and thing necessary and requisite to be done, as fully and to all the intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorney-in-fact and agent may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
| Signature | Title | ||||
| /s/ Richard Robinson | Chairman of the Board, President, | ||||
| Chief Executive Officer and | |||||
| Richard Robinson | Director (Principal Executive Officer) | ||||
| /s/ Mary A. Winston | Executive Vice President and Chief | ||||
| Financial Officer (Principal Financial Officer) | |||||
| Mary A. Winston | |||||
| /s/ Karen A. Maloney | Senior Vice President, Corporate Finance | ||||
| and Chief Accounting Officer (Principal | |||||
| Karen A. Maloney | Accounting Officer) | ||||
| /s/ Rebeca M. Barrera | Director | ||||
| /s/ Ramon C. Cortines | Director | ||||
| Ramon C. Cortines | |||||
| /s/ John L. Davies | Director | ||||
| John L. Davies | |||||
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| Signature | Title | ||||||
| /s/ Charles T. Harris III | Director | ||||||
| Charles T. Harris III | |||||||
| /s/ | |||||||
| /s/ Mae C. Jemison | Director | ||||||
| Mae C. Jemison | |||||||
| /s/ | Director | ||||||
| Peter M. Mayer | |||||||
| /s/ John G. McDonald | Director | ||||||
| John G. McDonald | |||||||
| /s/ Augustus K. Oliver | Director | ||||||
| Augustus K. Oliver | |||||||
| /s/ | Director | ||||||
| Richard M. Spaulding | |||||||
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Scholastic Corporation
Financial Statement Schedule
ANNUAL REPORT ON FORM 10-K
YEAR ENDED MAY 31, 20042006
ITEM 15(d)15(c)
S-1
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Schedule II
Valuation and Qualifying Accounts and Reserves
| (Amounts in millions) | |||||||||||||
| Years Ended May 31, | |||||||||||||
| Balance at | |||||||||||||
| Beginning | Write-Offs | Balance at | |||||||||||
| Of Year | Expensed | and Other | End of Year | ||||||||||
| 2006 | |||||||||||||
| Allowance for doubtful accounts | $ | 47.3 | $ | 59.1 | $ | 53.6 | $ | 52.8 | |||||
| Reserve for returns | 42.0 | 160.9 | 144.5 | (1) | 58.4 | ||||||||
| Reserve for obsolescence | 58.5 | 31.3 | 30.9 | 58.9 | |||||||||
| Reserve for royalty advances | 52.1 | 3.1 | 0.5 | 54.7 | |||||||||
| 2005 | |||||||||||||
| Allowance for doubtful accounts | $ | 68.3 | $ | 62.2 | $ | 83.2 | $ | 47.3 | |||||
| Reserve for returns | 52.6 | 130.8 | 141.4 | (1) | 42.0 | ||||||||
| Reserve for obsolescence | 59.2 | 38.7 | 39.4 | 58.5 | |||||||||
| Reserve for royalty advances | 49.8 | 3.0 | 0.7 | 52.1 | |||||||||
| 2004 | |||||||||||||
| Allowance for doubtful accounts | $ | 60.5 | $ | 90.3 | $ | 82.5 | $ | 68.3 | |||||
| Reserve for returns | 58.2 | 193.5 | 199.1 | (1) | 52.6 | ||||||||
| Reserve for obsolescence | 54.4 | 29.9 | 25.1 | 59.2 | |||||||||
| Reserve for royalty advances | 45.8 | 4.3 | 0.3 | 49.8 | |||||||||
| (1) Represents actual returns charged to the reserve. | |||||||||||||
S-2
(Amounts in millions)
Years Ended May 31, Balance at Beginning Write-Offs Balance at Of Year Expensed and Other End of Year 2004 Allowance for doubtful accounts $ 60.5 $ 90.3 $ 82.5 $ 68.3 Reserve for returns 58.2 193.5 199.1 (1) 52.6 Reserve for obsolescence 54.4 29.9 25.1 59.2 Reserve for royalty advances 45.8 4.3 0.3 49.8 2003 Allowance for doubtful accounts $ 62.6 $ 72.3 $ 74.4 $ 60.5 Reserve for returns 61.3 164.1 167.2 (1) 58.2 Reserve for obsolescence 55.1 26.7 27.4 54.4 Reserve for royalty advances 44.6 5.0 3.8 45.8 2002 Allowance for doubtful accounts $ 70.1 $ 68.7 $ 76.2 $ 62.6 Reserve for returns 63.0 156.8 158.5 (1) 61.3 Reserve for obsolescence 64.7 22.1 31.7 55.1 Reserve for royalty advances 43.0 3.7 2.1 44.6
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