UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2011. |
OR
| o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM .................... TO .................... |
Commission file number: 0-22187
RENAISSANCE LEARNING, INC.
(Exact name of registrant as specified in its charter)
| Wisconsin | | 39-1559474 |
(State or other jurisdiction of incorporation or organization) | | (I.R.S. Employer Identification No.) |
2911 Peach Street
P.O. Box 8036
Wisconsin Rapids, Wisconsin
(Address of principal executive offices)
54495-8036
(Zip Code)
(715) 424-3636
(Registrant’s telephone number, including area code)
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 þ No o
Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check One):
Large accelerated filer o | Accelerated filer þ | Non-Accelerated filer o | Smaller reporting company o |
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
| | | Outstanding at |
| Class | | APRIL 29, 2011 |
| Common Stock, $0.01 par value | | 29,339,819 |
RENAISSANCE LEARNING, INC.
INDEX TO FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2011
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
RENAISSANCE LEARNING, INC. AND SUBSIDIARIES
(unaudited)
| (In Thousands, Except Share and Per Share Amounts) | | March 31, 2011 | | | December 31, 2010 | |
| ASSETS | | | | | | |
| Current assets: | | | | | | |
| Cash and cash equivalents | | $ | 7,149 | | | $ | 9,845 | |
| Investment securities | | | 4,830 | | | | 6,630 | |
| Accounts receivable, less allowance of $1,309 and $1,289, respectively | | | 7,817 | | | | 7,873 | |
| Inventories | | | 5,171 | | | | 5,042 | |
| Prepaid expenses | | | 1,967 | | | | 1,668 | |
| Income taxes receivable | | | - | | | | 327 | |
| Deferred tax asset | | | 3,016 | | | | 2,615 | |
| Other current assets | | | 649 | | | | 711 | |
| Total current assets | | | 30,599 | | | | 34,711 | |
| Investment securities | | | 3,744 | | | | 3,661 | |
| Property, plant and equipment, net | | | 6,612 | | | | 6,720 | |
| Deferred tax asset | | | 4,658 | | | | 4,658 | |
| Goodwill | | | 2,870 | | | | 2,854 | |
| Other intangibles, net | | | 642 | | | | 683 | |
| Capitalized software, net | | | 403 | | | | 93 | |
| Other non-current assets | | | 352 | | | | 409 | |
| Total assets | | $ | 49,880 | | | $ | 53,789 | |
| | | | | | | | | |
| LIABILITIES AND SHAREHOLDERS' EQUITY | | | | | | | | |
| Current liabilities: | | | | | | | | |
| Accounts payable | | $ | 2,913 | | | $ | 2,874 | |
| Deferred revenue | | | 52,512 | | | | 64,791 | |
| Payroll and employee benefits | | | 7,071 | | | | 5,609 | |
| Income Taxes Payable | | | 2,172 | | | | - | |
| Other current liabilities | | | 2,573 | | | | 2,340 | |
| Total current liabilities | | | 67,241 | | | | 75,614 | |
| Deferred revenue | | | 7,710 | | | | 7,051 | |
| Deferred compensation and other employee benefits | | | 2,664 | | | | 2,538 | |
| Income taxes payable | | | 3,426 | | | | 3,426 | |
| Other noncurrent liabilities | | | 191 | | | | 213 | |
| Total liabilities | | | 81,232 | | | | 88,842 | |
| Shareholders' equity: | | | | | | | | |
| Common stock, $.01 par; shares authorized: 150,000,000; issued: 34,736,647 shares at March 31, 2011 and December 31, 2010 | | | 347 | | | | 347 | |
| Additional paid-in capital | | | 50,542 | | | | 50,434 | |
| Retained earnings | | | 9,935 | | | | 6,775 | |
| Treasury stock, at cost: 5,429,593 shares at March 31, 2011; 5,451,319 shares at December 31, 2010 | | | (92,090 | ) | | | (92,470 | ) |
| Accumulated other comprehensive loss | | | (86 | ) | | | (139 | ) |
| Total shareholders' equity | | | (31,352 | ) | | | (35,053 | ) |
| Total liabilities and shareholders' equity | | $ | 49,880 | | | $ | 53,789 | |
See accompanying notes to condensed consolidated financial statements.
RENAISSANCE LEARNING, INC. AND SUBSIDIARIES
(unaudited)
| | | Three Months Ended | |
| | | March 31, | |
| (In Thousands, Except per Share Amounts) | | 2011 | | | 2010 | |
| Product revenue: | | | | | | |
| Subscription | | $ | 14,517 | | | $ | 11,434 | |
| Non-subscription | | | 8,043 | | | | 10,405 | |
| | | | 22,560 | | | | 21,839 | |
| Service revenue: | | | | | | | | |
| Subscription | | | 6,736 | | | | 5,550 | |
| Non-subscription | | | 4,235 | | | | 4,834 | |
| | | | 10,971 | | | | 10,384 | |
| Total revenue | | $ | 33,531 | | | $ | 32,223 | |
| | | | | | | | | |
| Cost of sales: | | | | | | | | |
| Products | | $ | 3,315 | | | $ | 3,498 | |
| Services | | | 3,439 | | | | 3,491 | |
| Total cost of sales | | | 6,754 | | | | 6,989 | |
| Gross profit | | | 26,777 | | | | 25,234 | |
| | | | | | | | | |
| Operating expenses: | | | | | | | | |
| Product development | | | 4,219 | | | | 4,099 | |
| Selling and marketing | | | 10,229 | | | | 10,345 | |
| General and administrative | | | 3,526 | | | | 3,401 | |
| Total operating expenses | | | 17,974 | | | | 17,845 | |
| Operating income | | | 8,803 | | | | 7,389 | |
| Other (expense) income, net | | | (14 | ) | | | 239 | |
| Income before taxes | | | 8,789 | | | | 7,628 | |
| Income tax | | | 3,296 | | | | 1,845 | |
| Net income | | $ | 5,493 | | | $ | 5,783 | |
| | | | | | | | | |
| Earnings per share: | | | | | | | | |
| Basic and diluted | | $ | 0.19 | | | $ | 0.20 | |
| | | | | | | | | |
| Cash dividends declared per share | | $ | 0.08 | | | $ | 0.07 | |
See accompanying notes to condensed consolidated financial statements.
RENAISSANCE LEARNING, INC. AND SUBSIDIARIES
(unaudited)
| | | Three Months Ended March 31, | |
| (In Thousands) | | 2011 | | | 2010 | |
| | | | | | | |
| Reconciliation of net income to cash flows from operating activities: | | | | | | |
| Net income | | $ | 5,493 | | | $ | 5,783 | |
| Adjustments to arrive at cash (used) provided by operating activities: | | | | | |
| Depreciation and amortization | | | 578 | | | | 628 | |
| Amortization of investment discounts/premiums | | | 29 | | | | 27 | |
| Share-based compensation expense | | | 498 | | | | 494 | |
| Deferred income taxes | | | (401 | ) | | | 341 | |
Change in assets and liabilities, excluding the effects of acquisitions and divestitures: | | | | | | | | |
| Accounts receivable | | | 57 | | | | 1,621 | |
| Inventories | | | (129 | ) | | | 1,148 | |
| Prepaid expenses | | | (299 | ) | | | (40 | ) |
| Income taxes | | | 2,508 | | | | 1,065 | |
| Accounts payable and other liabilities | | | 1,713 | | | | 3,030 | |
| Deferred revenue | | | (11,621 | ) | | | (8,473 | ) |
| Other | | | 84 | | | | (92 | ) |
| Net cash (used) provided by operating activities | | | (1,490 | ) | | | 5,532 | |
| | | | | | | | | |
| Cash flows from investing activities: | | | | | | | | |
| Purchase of property, plant and equipment | | | (327 | ) | | | (348 | ) |
| Maturities/sales of investment securities | | | 1,775 | | | | 985 | |
| Capitalized software development costs | | | (310 | ) | | | - | |
| Net cash provided by investing activities | | | 1,138 | | | | 637 | |
| | | | | | | | | |
| Cash flows from financing activities: | | | | | | | | |
| Excess tax benefits from share-based payment arrangements | | | 8 | | | | 6 | |
| Dividends paid | | | (2,333 | ) | | | (2,044 | ) |
| Purchase of treasury stock | | | (19 | ) | | | (21 | ) |
| Net cash used by financing activities | | | (2,344 | ) | | | (2,059 | ) |
| Net change in cash and cash equivalents | | | (2,696 | ) | | | 4,110 | |
| Cash and cash equivalents, beginning of period | | | 9,845 | | | | 36,207 | |
| Cash and cash equivalents, end of period | | $ | 7,149 | | | $ | 40,317 | |
See accompanying notes to condensed consolidated financial statements
RENAISSANCE LEARNING, INC. AND SUBSIDIARIES
(unaudited)
1. Consolidation
The condensed consolidated financial statements include the financial results of Renaissance Learning, Inc. (Renaissance Learning) and our subsidiaries (collectively, the “Company”). All significant intercompany transactions and accounts have been eliminated in consolidation.
2. Basis of Presentation
The condensed consolidated financial statements reflect all adjustments (consisting only of normal recurring adjustments) which are, in our opinion, necessary for a fair presentation of the results of the interim periods, and are presented on an unaudited basis. These financial statements should be read in conjunction with the financial information contained in our Annual Report on Form 10-K for the year ended December 31, 2010, as amended, (“2010 Annual Report”), which is on file with the U.S. Securities and Exchange Commission (the “SEC”). The results of operations for the three month periods ended March 31, 2011 and 2010 are not necessarily indicative of the results to be expected for the full year.
3. Earnings Per Common Share
Basic earnings per common share (“Basic EPS”) is computed by dividing net income by the weighted average number of common shares and participating securities outstanding during the period. Participating securities include unvested restricted stock awards that have a nonforfeitable right to dividends or dividend equivalents. Common shares and participating securities issued or reacquired during the period are weighted for only the portion of the period during which they were outstanding.
Diluted earnings per common share (“Diluted EPS”) has been computed based on the weighted average number of common shares and other participating securities outstanding, increased by the number of additional common shares that would have been outstanding if the potentially dilutive stock option shares and non-participating restricted stock awards had been issued.
The computation of Diluted EPS does not assume conversion, exercise, or contingent issuance of securities that may have an antidilutive effect on earnings per share (“Antidilutive Securities”). Antidilutive Securities include: (i) stock options with an exercise price greater than the average market price for the period, (ii) non-participating restricted stock awards with a grant price greater than the average market price for the period, (iii) non-participating restricted stock awards with unearned compensation costs attributable to future service which exceed the average market price for the period, and (iv) in a period with a loss, all stock options and non-participating restricted stock awards. For the three months ended March 31, 2011 and 2010, the number of Antidilutive Securities was 503,161 and 596,817, respectively.
| Weighted average shares outstanding and earnings per share: | |
| | | Three Months ended | |
| | | March 31, | |
| | | 2011 | | | 2010 | |
| Basic weighted average shares outstanding | | | 29,292,139 | | | | 29,289,258 | |
| Dilutive effect of non-participating restricted shares | | | 204 | | | | 607 | |
| Diluted weighted average shares outstanding | | | 29,292,343 | | | | 29,289,865 | |
| | | | | | | | | |
| Earnings per share, basic and diluted | | $ | 0.19 | | | $ | 0.20 | |
4. Comprehensive Income
Our comprehensive income includes net income and foreign currency translation adjustments. For the quarters ended March 31, 2011 and 2010, comprehensive income was $5.5 million and $5.8 million, respectively.
5. Goodwill and Other Intangible Assets
All of our goodwill is related to the Educational Software and Services segment. Under Generally Accepted Accounting Principles in the United States (“US GAAP”), goodwill is not amortized and we assess goodwill annually, as of December 31, for impairment by applying a fair value-based test.
Other intangibles consist of customer relationships related to an acquisition we made in 2005. The customer relationships intangible asset is amortized over its useful life of ten years, on the declining balance method. For the three months ended March 31, 2011and 2010, amortization expense related to the customer relationships intangible was $41,000 and $50,000, respectively.
| Customer Relationships | |
| (In Thousands) | | March 31, 2011 | | December 31, 2010 | |
| Gross amount | | $ | 3,200 | | | $ | 3,200 | |
| Accumulated amortization | | | (2,558 | ) | | | (2,517 | ) |
| Net carrying value | | $ | 642 | | | $ | 683 | |
6. Uncertain Tax Positions
During the first quarter of 2010, we settled a state income tax dispute. This resulted in the recognition of $1.1 million in tax benefits related to prior years which had been carried on our balance sheet at December 31, 2009 as non-current income taxes payable.
7. Equity Compensation
We value restricted stock awards at the closing market price of our common stock on the date of grant. We granted restricted stock awards for 23,550 units during the three months ended March 31, 2011, and granted restricted stock awards for 28,279 units during the three months ended March 31, 2010. The exercise prices for our stock option grants are equal to the fair market value of our common stock on the date the options were granted. There were no options to purchase our stock granted during the three months ended March 31, 2011 and March 31, 2010.
As of March 31, 2011, the total unearned compensation related to share-based compensation awards, net of estimated forfeitures, was $2.1 million, which will be amortized as expense over the weighted average remaining period of 2.4 years. For the three months ended March 31, 2011 and 2010, total share-based compensation expense was $0.5 million and $0.5 million, respectively.
A summary of restricted stock award activity for the three months ended March 31, 2011 is as follows:
| Unvested Restricted Stock Awards | | Units | | | Weighted average grant date fair value | | | Aggregate intrinsic value | |
| Balance at January 1, 2011 | | | 389,766 | | | $ | 11.60 | | | $ | 4,614,829 | (1) |
| Granted | | | 23,550 | | | | 10.65 | | | | | |
| Vested | | | (10,907 | ) | | | 13.60 | | | | | |
| Forfeitures | | | (120 | ) | | | 12.52 | | | | | |
| Balance at March 31, 2011 | | | 402,289 | | | $ | 11.49 | | | $ | 4,726,896 | (2) |
(1) Calculated at the 12/31/10 closing market price at $11.84 per share
(2) Calculated at the 3/31/11 closing maket price at $11.75 per share
8. Fair Value Measurements
Certain of our assets and liabilities are reported at fair value in our consolidated financial statements. US GAAP establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. As presented in the tables below, this hierarchy consists of three broad levels with level 1 inputs having the highest priority, followed by level 2, and lastly, level 3. Level 1 inputs consist of quoted prices in active markets for identical assets and liabilities. Level 2 inputs are other observable evidence of fair value, such as quoted prices for similar assets and liabilities or other market-corroborated evidence of fair value. Level 3 inputs are unobservable evidence of fair market value, such as a discounted cash flows model or other pricing model.
The table below provides fair value measurement information for securities held as of March 31, 2011 and 2010. The carrying values of cash and cash equivalents, accounts receivable, and accounts payable (including income taxes payable and accrued expenses), approximated fair value at March 31, 2011 and 2010.
| 2011 | | | | | | | | Fair Value Measurements Using | |
| | | Carrying | | | Total Fair | | | Level 1 | | | Level 2 | | | Level 3 | |
| (In Thousands) | | Amount | | | Value | | | Inputs | | | Inputs | | | Inputs | |
| Certificates of deposit | | $ | 1,000 | | | $ | 1,001 | | | $ | - | | | $ | 1,001 | | | $ | - | |
| Municipal bonds and notes | | | 4,910 | | | | 4,907 | | | | - | | | | 4,907 | | | | - | |
| Mutual funds held related to SERP | | | 2,664 | | | | 2,664 | | | | 2,664 | | | | - | | | | - | |
| 2010 | | | | | | | | Fair Value Measurements Using | |
| | | Carrying | | | Total Fair | | | Level 1 | | | Level 2 | | | Level 3 | |
| (In Thousands) | | Amount | | | Value | | | Inputs | | | Inputs | | | Inputs | |
| Certificates of deposit | | $ | 2,000 | | | $ | 2,006 | | | $ | - | | | $ | 2,006 | | | $ | - | |
| Corporate bonds and notes | | | 1,549 | | | | 1,550 | | | | - | | | | 1,550 | | | | - | |
| Municipal bonds and notes | | | 1,582 | | | | 1,583 | | | | - | | | | 1,583 | | | | - | |
| Mutual funds held related to SERP | | | 1,971 | | | | 1,971 | | | | 1,971 | | | | - | | | | - | |
9. Segment information
We determine our operating segments based on the information used by our executive officers to allocate resources and assess performance. Gross profit is the primary measurement our executive officers use to assess segment performance. Our reportable segments are:
Educational Software and Services. This segment derives its revenue from our software products; services related to our software such as product support, professional development, hosting, and other technical services; scanners sold for use with our math software; our reading intervention products; and various classroom resources such as printed materials and motivational items.
Educational Hardware. This segment derives its revenue from our NEOs, 2Know! classroom response systems, and services such as professional development and extended support plans sold in connection with these hardware products.
The accounting policies of the segments are the same as those described in our 2010 Annual Report, Note 3, Significant Accounting Policies. There are no intercompany transactions between the segments. All segment revenues are with external customers. International revenues and operations are not significant at this time. We do not segregate assets by segments in assessing segment performance since substantially all assets are multi-use and shared between the two segments, and accordingly, our executive officers do not use segment asset information to allocate resources and assess performance. Depreciation and amortization included in segment gross profit is not material.
Segment results were as follows:
| Segment Revenues: | | | | | | |
| | | Three Months Ended | |
| | | March 31, | |
| (In Thousands) | | 2011 | | | 2010 | |
| Educational software and services | | $ | 29,191 | | | $ | 26,610 | |
| Educational hardware | | | 4,340 | | | | 5,613 | |
| Consolidated revenue | | $ | 33,531 | | | $ | 32,223 | |
| Segment Gross Profit and Reconciliation to Net Income Before Taxes: | | | | | | |
| | | Three Months Ended | |
| | | March 31, | |
| (In Thousands) | | 2011 | | | 2010 | |
| Educational software and services | | $ | 25,015 | | | $ | 22,431 | |
| Educational hardware | | | 1,762 | | | | 2,803 | |
| Consolidated gross profit | | | 26,777 | | | | 25,234 | |
| Consolidated operating expenses | | | 17,974 | | | | 17,845 | |
| Other income | | | (14 | ) | | | 239 | |
| Consolidated net income before taxes | | $ | 8,789 | | | $ | 7,628 | |
10. Dividends
On February 16, 2011, our Board of Directors declared a quarterly cash dividend of $0.08 per share, payable March 16, 2011 to shareholders of record as of March 2, 2011.
11. Enhancement of our Income Statement Presentation
We enhanced the presentation of revenue on our income statement this quarter, with a goal to make it clearer what portion of our product and service revenue is recurring (i.e. subscription-based) in nature. The new presentation disaggregates product and service revenues into their subscription and non-subscription components, but does not affect what is classified as a product or a service.
Subscription product revenue includes the portion of the student subscription fee related to software and content. Non-subscription product revenue primarily includes: hardware, separately sold software content such as Accelerated Reader quizzes, and Successful Reader.
Subscription service revenue primarily includes: the portion of the student subscription fee related to software support, and separately sold hosting and coaching services. Non-subscription service revenue primarily includes installation services, technical consulting, and on-site and remote professional development.
12. Subsequent Event
On April 27, 2011, our Board of Directors declared a quarterly cash dividend of $0.08 per share, payable June 1, 2011 to shareholders of record as of May 13, 2011.
Results of Operations - Consolidated
Our results of operations can be affected by many factors including the general economic environment, state and federal government budgetary decisions, and the length and complexity of the sales cycle for school districts. National trends, federal and state legislation, Department of Education administrative policies, and the way the foregoing align with our products and services can also impact our business.
We monitor several important issues, which are significant to the evaluation of our financial condition, operating results, business challenges, and strategic opportunities. Among the more important of these items are:
(i) Our success and trends in maintaining and expanding our customer base, particularly with respect to our Accelerated Reader software, which accounts for approximately 40% of our orders. In addition, services related to Accelerated Reader account for approximately 10% of our orders.
(ii) The general state of K-12 educational funding in the United States; and
(iii) The state of K-12 funding in certain large states, particularly California and Texas, which together make up about one-fourth of our total orders.
A key part of our business strategy is to transition our perpetual license customers to our hosted subscription-based Enterprise software products. Accelerated Reader customers who transition to our Enterprise subscription-based product have increased their average annual purchases by over $1,000 per school. Although this amount of incremental revenue could change due to customer mix and other factors including additional purchases of products and services, we expect that we will continue to see incremental revenue from customers that transition to Accelerated Reader Enterprise. We have also experienced an annual per customer revenue increase for our other Enterprise products, but the increase has been most significant with our Accelerated Reader Enterprise product.
We track active usage of both our subscription and perpetual products via a variety of measures including active subscriptions, recent customer support contacts, recent purchases, and recent participation in training or professional development events. Because the majority of our active subscriptions expire during the second and third quarter, and because we continuously refine the criteria used to develop the metrics for defining active use of our products, we may make periodic adjustments to our customer counts in order to provide what we believe is the most useful information for managing and understanding our active customer base. The most current methodology is applied to develop any historical metrics so that any comparative presentation is on a consistent basis. Based on these criteria, our approximate worldwide active customer counts for both our perpetual and subscription-based licenses at March 31, 2011 were as follows: Accelerated Reader - 50,000, Accelerated Math – 14,000, and STAR Reading or STAR Math – 43,000 essentially unchanged from December 31.
We believe the percentage of customers using the subscription-based Enterprise versions of our reading and math products is an important indicator of the progress of this strategic growth initiative and the potential for growth still existing with regard to this strategy. We believe the percentage of customers using reading products is more critical in measuring this opportunity because Accelerated Reader is our most significant product and because we have experienced a greater increase in per customer revenues from Accelerated Reader Enterprise compared to our other subscription-based products. At the end of the first quarter of 2011, approximately 50% of our active reading product customers were using the Enterprise version, essentially unchanged from the end of 2010.
Our subscription-based software strategy has affected, and will continue to affect, our results of operations. Revenues from subscription-based software sales are not completely incremental to our results, as customers who upgrade from a perpetual license to a subscription version no longer purchase annual support plans for our perpetual-license products, and those who purchase the Enterprise version also no longer purchase add-on content. Revenues under the subscription-based model are composed of both software and services. The gross profit margins from subscription-based software products are slightly higher than our historical gross profit margins on sales of perpetual-license software. Additionally, the subscription-based software business generates a sales mix somewhat more heavily weighted towards services and these services tend to have a somewhat higher gross profit margin than services sold with our perpetual-license software products.
The seasonality of customer ordering patterns has increased as a result of our subscription-based software strategy. Compared to orders for non-subscription-based offerings, customer orders of our subscription-based offerings tend to more closely follow school budgeting cycles, resulting in a more seasonal order pattern weighted to the second and, even more so, third calendar quarters. Currently about 20% of our subscriptions have renewal dates in the second quarter and about 60% of our subscriptions have renewal dates in the third quarter. Also, after customers convert to the Enterprise version, they no longer order reading quizzes and math libraries, since access to this content is included in their subscription. Historically, our customers have ordered more of this content in the first and fourth quarters. The combined effect is that a much greater proportion of a year’s orders are expected in the second quarter and, to an even greater extent, in the third quarter. Currently, we receive about 25% of our orders in the second quarter and about 40% in the third quarter.
As the transition to subscription-based products has progressed, we have built substantial balances of deferred subscription revenue. Since this deferred revenue is recognized ratably over the subscription period (generally twelve months), it reduces the volatility of our reported revenue and revenues in a given period are not necessarily indicative of the orders placed by our customers for our products and services during the same period.
Customer orders for our products and services decreased by approximately $4.3 million, or 17%, to $21.1 million in the first three months of 2011 compared to $25.4 million in the first three months of 2010. The first quarter of last year included a $2.9 million order from a large urban school district. Excluding that large deal, total orders were down by 6% and software orders were down 2%. First quarter hardware orders decreased about 20% to $4.2 million. Hardware orders were especially impacted by funding pressures as hardware is often viewed as a more discretionary purchase.
The next several quarters are expected to continue to be a time of tight school budgets in the K-12 market. The Wall Street Journal recently reported that state and local tax revenues have returned to levels of several years ago, but that 2012 may be one of the most difficult budget years on record. The federal assistance provided to states for education and other purposes in the past few years is largely gone and without it states are facing substantial budget gaps and may be forced to make significant cuts in order to balance their budgets. According to the Center on Budget and Policy priorities, forty-four states are projecting budget shortfalls totaling $112 billion for 2012. Therefore, although we expect education to be spared from the most severe cuts, it is very likely that our customers will face significant funding challenges.
| Consolidated income statement data: | |
| | | Three Months Ended March 31, | | | Change | |
| (Dollars in Thousands) | | 2011 | | | 2010 | |
| Product revenue: | | | | | | | | | | | | | | | | | | |
| Subscription | | $ | 14,517 | | | | 43.3 | % | | $ | 11,434 | | | | 35.5 | % | | $ | 3,083 | | | | 27.0 | % |
| Non-subscription | | | 8,043 | | | | 24.0 | % | | | 10,405 | | | | 32.3 | % | | | (2,362 | ) | | | -22.7 | % |
| | | | 22,560 | | | | 67.3 | % | | | 21,839 | | | | 67.8 | % | | | 721 | | | | 3.3 | % |
| Service revenue: | | | | | | | | | | | | | | | | | | | | | | | | |
| Subscription | | | 6,736 | | | | 20.1 | % | | | 5,550 | | | | 17.2 | % | | | 1,186 | | | | 21.4 | % |
| Non-subscription | | | 4,235 | | | | 12.6 | % | | | 4,834 | | | | 15.0 | % | | | (599 | ) | | | -12.4 | % |
| | | | 10,971 | | | | 32.7 | % | | | 10,384 | | | | 32.2 | % | | | 587 | | | | 5.7 | % |
| Total net revenue | | $ | 33,531 | | | | 100.0 | % | | $ | 32,223 | | | | 100.0 | % | | $ | 1,308 | | | | 4.1 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Cost of sales: | | | | | | | | | | | | | | | | | | | | | | | | |
| Products | | $ | 3,315 | | | | 14.7 | % | | $ | 3,498 | | | | 16.0 | % | | $ | (183 | ) | | | -5.2 | % |
| Services | | | 3,439 | | | | 31.3 | % | | | 3,491 | | | | 33.6 | % | | | (52 | ) | | | -1.5 | % |
| Total cost of sales | | | 6,754 | | | | 20.1 | % | | | 6,989 | | | | 21.7 | % | | | (235 | ) | | | -3.4 | % |
| Total gross profit | | | 26,777 | | | | 79.9 | % | | | 25,234 | | | | 78.3 | % | | | 1,543 | | | | 6.1 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Operating expenses: | | | | | | | | | | | | | | | | | | | | | | | | |
| Product development | | | 4,219 | | | | 12.6 | % | | | 4,099 | | | | 12.7 | % | | | 120 | | | | 2.9 | % |
| Selling and marketing | | | 10,229 | | | | 30.5 | % | | | 10,345 | | | | 32.1 | % | | | (116 | ) | | | -1.1 | % |
| General and administrative | | | 3,526 | | | | 10.5 | % | | | 3,401 | | | | 10.6 | % | | | 125 | | | | 3.7 | % |
| Total operating expenses | | | 17,974 | | | | 53.6 | % | | | 17,845 | | | | 55.4 | % | | | 129 | | | | 0.7 | % |
| Operating income | | | 8,803 | | | | 26.3 | % | | | 7,389 | | | | 22.9 | % | | | 1,414 | | | | 19.1 | % |
| Other, net | | | (14 | ) | | | 0.0 | % | | | 239 | | | | 0.8 | % | | | (253 | ) | | | -105.9 | % |
| Income before taxes | | | 8,789 | | | | 26.2 | % | | | 7,628 | | | | 23.7 | % | | | 1,161 | | | | 15.2 | % |
| Income tax provision | | | 3,296 | | | | 9.8 | % | | | 1,845 | | | | 5.7 | % | | | 1,451 | | | | 78.6 | % |
| Net Income | | $ | 5,493 | | | | 16.4 | % | | $ | 5,783 | | | | 17.9 | % | | $ | (290 | ) | | | -5.0 | % |
The amounts above are expressed as a percentage of net sales, except that individual components of cost of sales and gross profit are shown as a percentage of their corresponding component of net sales.
Consolidated Results
Three Months Ended March 31, 2011 and 2010
Net Sales. Our net sales increased by $1.3 million, or 4.1%, to $33.5 million in the first quarter of 2011 from $32.2 million in the first quarter of 2010.
Product revenue increased by $0.7 million, or 3.3%, to $22.6 million in the first quarter of 2011 from $21.8 million in the first quarter of 2010. Subscription revenue was up $3.1 million due to revenue recognized from prior period orders. Non-subscription product revenue decreased by $2.4 million. This was due to a decline in hardware sales, primarily NEOs, and a decline in Accelerated Reader quizzes as our customer base transitions to our subscription-based Enterprise products, which include content.
Service revenue increased by $0.6 million, or 5.7%, to $11.0 million in the first quarter of 2011 from $10.4 million in the first quarter of 2010 due to increases in hosting and software support revenue, offset by declines in technical services and professional development revenue.
Cost of Sales. The cost of sales of products decreased by $0.2 million, or 5.2%, to $3.3 million in the first quarter of 2011 from $3.5 million in the first quarter of 2010. As a percentage of product sales, the cost of sales of products decreased to 14.7% in the first quarter of 2011, compared to 16.0% for the first quarter of 2010. This was primarily due to a revenue mix weighted more heavily to software in 2011, as the cost of sales are lower for software than for hardware.
The cost of sales of services decreased by $0.1 million, or 1.5%, to $3.4 million in the first quarter of 2011 from $3.5 million in the first quarter of 2010. As a percentage of sales of services, the cost of sales of services decreased to 31.3% in the first quarter of 2011 from 33.6% in the first quarter of 2010. This was primarily due to a mix more heavily weighted to our more profitable service offerings, hosting and some remote services, and due to our success in continuing to leverage our fixed costs.
Our overall gross profit margins increased to 79.9% in the first quarter of 2011 from 78.3% in the first quarter of 2010 due to the factors discussed above.
Product Development. Product development expenses increased by $0.1 million, or 2.9%, to $4.2 million in the first quarter of 2011 from $4.1 million in the first quarter of 2010. Investment in additional research and development resources was offset by $0.3 million of software development cost capitalization. As a percentage of net sales, product development expenses decreased to 12.6% in the first quarter of 2011 from 12.7% in the first quarter of 2010.
Selling and Marketing. Selling and marketing expenses decreased by $0.1 million, or 1.1%, to $10.2 million in the first quarter of 2011 from $10.3 million in the first quarter of 2010. Selling expenses decreased by $0.4 million primarily due to lower commissions resulting from a decrease in order rates. This was offset by an increase in marketing expenses of $0.3 million for advertising expenses related to the launch of STAR Enterprise. As a percentage of net sales, selling and marketing expenses decreased to 30.5% in the first quarter of 2011 from 32.1% in the first quarter of 2010.
General and Administrative. General and administrative expenses increased to $3.5 million in the first quarter of 2011, essentially unchanged from $3.4 million in the first quarter of 2010. As a percentage of net sales, general and administrative expenses decreased to 10.5% in the first quarter of 2011 from 10.6% in the first quarter of 2010.
Operating Income. Operating income increased by $1.4 million, or 19.1%, to $8.8 million in the first quarter of 2011 from $7.4 million in the first quarter of 2010. The increase was primarily due to the incremental gross profit generated by higher revenue in the first quarter of 2011. As a percentage of net sales, operating income increased to 26.3% in the first quarter of 2011 from 22.9% in the first quarter of 2010.
Income Tax. Income tax expense of $3.3 million was recorded in the first quarter of 2011 at an effective income tax rate of 37.5% of pre-tax income. This compares to $1.8 million that was recorded in the first quarter of 2010 at an effective income tax rate of 38.1% of pre-tax income, less a tax benefit of $1.1 million related to the settlement of a state income tax dispute.
Results of Operations – Segments
Our reportable segments are:
Educational Software and Services. This segment derives its revenue from our software products; services related to our software such as product support, professional development, hosting, and other technical services; scanners sold for use with our math software; our reading intervention products; and various classroom resources such as printed materials and motivational items.
Educational Hardware. This segment derives its revenue from our NEOs, 2Know! classroom response systems, and services such as professional development and extended support plans sold in connection with these hardware products.
| Segment results: | |
| | | Three months ended | |
| | | March 31, | |
| (Dollars in Thousands) | | 2011 | | | 2010 | |
| Educational Software and Services Segment: | | | | | | |
| Revenues | | $ | 29,191 | | | $ | 26,610 | |
| Gross profit | | | 25,015 | | | | 22,431 | |
| Gross profit % | | | 85.7 | % | | | 84.3 | % |
| | | | | | | | | |
| Educational Hardware Segment: | | | | | | | | |
| Revenues | | $ | 4,340 | | | $ | 5,613 | |
| Gross profit | | | 1,762 | | | | 2,803 | |
| Gross profit % | | | 40.6 | % | | | 49.9 | % |
Educational Software and Services Segment
Three Months Ended March 31, 2011 and 2010
Segment revenues increased by $2.6 million, or 9.7%, to $29.2 million in 2011 from $26.6 million in 2010. This improvement was primarily due to increased revenue from our subscription-based software products and related services, such as hosting, phone support, and technical services.
Gross profit increased by $2.6 million to $25.0 million in 2011 from $22.4 million in 2010. As a percentage of revenue, gross profit increased to 85.7% in 2011 from 84.3% in the prior year. This was due to a revenue mix weighted more heavily to software and to our more profitable service offerings in 2011.
Educational Hardware Segment
Three Months Ended March 31, 2011 and 2010
Segment revenues decreased by $1.3 million, or 22.7%, to $4.3 million in 2011 from $5.6 million in 2010. Segment revenues decreased primarily due to low demand for NEOs which we believe is related to the difficult school funding environment.
Gross profit decreased by $1.0 million to $1.8 million in 2011 from $2.8 million in 2010. As a percentage of revenue, gross profit decreased to 40.6% in 2011, from 49.9% in 2010. The decline is primarily attributable to full implementation in the first quarter of 2011of the price decrease that went into effect in 2010.
Liquidity and Capital Resources
As of March 31, 2011, our cash, cash equivalents and investment securities were $15.7 million, down $4.4 million from $20.1 million at December 31, 2010. The decrease was primarily due to $1.5 million of cash flow used by operations and $2.3 million used to pay dividends. The negative cash flow from operations in the current quarter was primarily due to the increasing seasonality of customer orders, which are becoming more weighted to the second and third quarters; and to the timing of tax payments.
As of March 31, 2011, we have a $15.0 million secured revolving line of credit with a bank, which is available until July 1, 2012. The line of credit bears interest at either a floating rate or a fixed rate for a period of up to 90 days based on LIBOR plus 1.5%. The rate is at our option and is determined at the time of borrowing. We also have a $2.0 million unsecured revolving line of credit with a bank available until July 31, 2011, which bears interest at the prime rate. We expect to renew the line of credit. As of March 31, 2011, the lines of credit had not been used.
On April 17, 2002, our Board of Directors authorized a repurchase program, which provides for the repurchase of up to 5.0 million shares of our common stock. On February 9, 2005, our Board of Directors authorized the repurchase of an additional 3.0 million shares under the stock repurchase program. On February 6, 2008, our Board of Directors authorized the repurchase of an additional 1.0 million shares under the stock repurchase program.
No time limit was placed on the duration of the repurchase program, nor is there any dollar limit on the program. We repurchase shares on the open market as well as from employees who elect to surrender restricted shares at the time of vesting to pay their payroll withholding taxes. Repurchased shares will become treasury shares and may be used for equity compensation plans, stock-based employee benefit plans and for other general corporate purposes. From January 1, 2011 through March 31, 2011, we repurchased 1,700 shares at a cost of $19,000. Since the original authorization of the repurchase program in 2002, we have repurchased approximately 7.9 million shares at a cost of $136.8 million. Depending on our stock valuation, cash availability and other factors, we may repurchase additional shares as a beneficial use of our cash to enhance shareholder value.
In the first quarter of 2011 we paid a cash dividend of $0.08 per share. In the first quarter of 2010 we paid a cash dividend of $0.07 per share. In each of the second, third and fourth quarters of 2010 we paid a cash dividend of $0.08 per share. We also paid a special cash dividend of $2.00 per share in the fourth quarter of 2010.
We intend to continue to pay quarterly cash dividends, subject to capital availability and a determination that cash dividends continue to be in the best interests of the company and our shareholders. Our Board of Directors also considers several additional factors when declaring dividends, including: (i) the company’s financial statements as of the most recent practicable date, (ii) the expected cash costs to deliver the products and services sold and recorded as deferred revenue, (iii) the company’s ability to provide the products and services underlying the amounts recorded as deferred revenue, (iv) the likelihood of recognizing amounts recorded as deferred revenue as net sales based on the company’s historical experience and most recent projections, (v) the short time period over which such recognition has historically occurred and is expected to occur, and (vi) other information, opinions, reports and statements prepared and presented by the company’s officers and employees about the company’s business, operations and financial condition.
We believe our strong cash position coupled with cash flow from operations will be sufficient to meet both our short-term and long-term working capital requirements.
Off-Balance Sheet Arrangements and Aggregate Contractual Obligations
We do not have any off-balance sheet transactions, arrangements or obligations (including contingent obligations), that would have a material effect on our financial results.
Operating Leases. We enter into operating leases, primarily for facilities that we occupy in order to carry out our business operations. We utilize operating leases for some of our facilities to gain flexibility as compared to purchasing facilities outright and to limit our exposure to many of the risks of owning commercial property. These agreements are generally for terms of one to five years. Some of the leases have early termination clauses, but they generally cannot be terminated by either the lessor or us for reasons other than breach of the lease agreement. We do not anticipate the early termination of any significant lease agreement.
Purchase Obligations primarily consist of commitments with suppliers of our hardware products, such as NEOs, AccelScan scanners and the 2Know! classroom response system. The majority of these obligations will be satisfied within one year.
Tax Audit Settlements and Deposits. We do not anticipate making any significant cash payments related to the settlement of tax audits or deposits for unsettled audit issues in 2011. Estimation of the amounts and timing of such payments in periods after 2011 are highly uncertain and therefore are not included in the table below.
As of March 31, 2011, our approximate contractual obligations for operating leases, tax audit payments and purchase obligations (by period due) were as follows:
| Payments Due by Period | | | | | | | | | | | | | | | |
| (In Thousands) | | Total | | | Less than 1 year | | | 1-3 years | | | 3-5 years | | | More than 5 years | |
| Operating lease obligations | | $ | 4,116 | | | $ | 1,030 | | | $ | 2,217 | | | $ | 585 | | | $ | 284 | |
| Tax audit related payments | | | - | | | | - | | | | - | | | | - | | | | - | |
| Purchase obligations | | | 5,042 | | | | 5,041 | | | | 1 | | | | - | | | | - | |
| Total | | $ | 9,158 | | | $ | 6,071 | | | $ | 2,218 | | | $ | 585 | | | $ | 284 | |
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (US GAAP) requires management to make judgments, estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. There have been no significant changes to our critical accounting policies as previously disclosed in our 2010 Annual Report.
Forward-Looking Statements
In accordance with the Private Securities Litigation Reform Act of 1995, we can obtain a “safe-harbor” for forward-looking statements by identifying those statements and by accompanying those statements with cautionary statements which identify factors that could cause actual results to differ materially from those in the forward-looking statements. Accordingly, the foregoing “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the following “Quantitative and Qualitative Disclosures about Market Risk” may contain certain forward-looking statements regarding strategic growth initiatives, growth opportunities and management’s expectations regarding orders and financial results for 2011 and future periods including statements preceded by, followed by or that include the words “believes,” “expects,” “anticipates,” references to estimates or similar expressions. These forward-looking statements are based on current expectations and current assumptions which management believes are reasonable. However, these statements involve risks and uncertainties that could cause actual results to differ materially from any future results encompassed within the forward-looking statements. Factors that could cause or contribute to such differences include: (i) the failure of orders to achieve expected growth targets, (ii) a decline in quiz sales that exceeds forecasts, (iii) risks associated with the implementation of the Company’s growth initiatives, (iv) dependence on educational institutions and government funding, and (v) other risks affecting the Company’s business as described in the Company’s filings with the Securities and Exchange Commission, including the Company’s 2010 Annual Report and later filed quarterly reports on Form 10-Q and current reports on Form 8-K, which factors are incorporated herein by reference. The Company expressly disclaims a duty to provide updates to forward-looking statements, whether as a result of new information, future events or other occurrences.
Interest Rate Risk. Our exposure to market interest rate risk consists of: (i) the increase or decrease in the amount of interest income we can earn on our investment portfolio and (ii) the decrease or increase in the value of our investment security portfolio if market interest rates increase or decrease, respectively. We anticipate that we will have sufficient liquidity to hold our investments to maturity; therefore, we do not expect to recognize any material losses or gains related to an increase or decrease in market interest rates.
Market Risk. Our exposure to market risk relates to the quality of the holdings in our investment security portfolio. The fair market value of our investments is subject to increases or decreases in value resulting from the performance of the securities issuer, upgrades or downgrades in the creditworthiness of the securities issuer, upgrades or downgrades in the creditworthiness of the insurer of the securities (if any), and changes in general market conditions.
We seek to manage our exposure to market risk by investing in accordance with our corporate investment policy as established by our Board of Directors. The goals of the policy are: (i) preservation of capital, (ii) provision of adequate liquidity to meet projected cash requirements, (iii) minimization of risk of principal loss through diversification, and (iv) maximization of yields in relationship to the guidelines, risk, market conditions and tax considerations.
Our investment policy permits investments in obligations of the U.S. Treasury department and its agencies, money market funds, and high quality investment-grade corporate and municipal interest-bearing obligations. The policy requires diversification to prevent excess concentration of issuer risk and requires the maintenance of minimum liquidity levels. The policy precludes investment in equity securities except for the specific purpose of funding the obligations related to our Supplemental Executive Retirement Plan. As of March 31, 2011, our investment securities had a market value of approximately $8.6 million and a carrying value of $8.6 million. Due to the type and duration of our investments, we do not expect to realize any material gains or losses related to market risk.
Foreign Currency Exchange Rate Risk. The financial position and results of operations of our foreign subsidiaries are measured using local currency. Revenues and expenses of such subsidiaries have been translated into U.S. dollars using average exchange rates prevailing during the period. Assets and liabilities have been translated at the rates of exchange on the balance sheet date. Translation gains or losses are deferred as a separate component of shareholders’ equity. Aggregate foreign currency transaction gains and losses are included in determining net income. As such, our operating results are affected by fluctuations in the value of the U.S. dollar compared to the British pound, Canadian dollar, and the Euro. At this time, foreign exchange rate risk is not significant due to the relative size of our foreign operations and revenues derived from sales in foreign currencies.
We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC, and that such information is accumulated and communicated to our management, including our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), as appropriate, to allow timely decisions regarding required disclosures. In designing and evaluating our disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives and management was necessarily required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
As of March 31, 2011, an evaluation was performed under the supervision and with the participation of management, including our CEO and CFO, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on that evaluation, management, including the CEO and CFO, concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the SEC.
There has been no change in our internal control over financial reporting that has occurred during the quarter ended March 31, 2011 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Part II - OTHER INFORMATION
There have been no material changes to the risk factors as previously disclosed in our 2010 Annual Report in response to Item 1A to Part I of Form 10-K.
On April 17, 2002, our Board of Directors authorized a stock repurchase program which provides for the repurchase of up to 5.0 million shares of our common stock. On February 9, 2005, our Board of Directors authorized the repurchase of an additional 3.0 million shares under the stock repurchase program. On February 6, 2008, our Board of Directors authorized the repurchase of an additional 1.0 million shares under the stock repurchase program.
No time limit was placed on the duration of the repurchase program, nor is there any dollar limit on the program. We repurchase shares on the open market as well as from employees who elect to surrender restricted shares at the time of vesting to pay their payroll withholding taxes. Repurchased shares will become treasury shares and may be used for equity compensation plans, stock-based employee benefit plans and for other general corporate purposes.
The following table shows information relating to the repurchase of shares of our common stock during the three months ended March 31, 2011:
| Period | | Total number of shares repurchased | | | Average price paid per share | | | Total number of shares purchased as part of publicly announced plans or programs | | | Maximum number of shares that may yet be purchased under the plans or programs | |
| January 1-31 | | | 1,484 | | | $ | 10.99 | | | | 1,484 | | | | 1,056,449 | |
| February 1-28 | | | 220 | | | | 10.50 | | | | 220 | | | | 1,056,229 | |
| March 1-31 | | | - | | | | - | | | | - | | | | 1,056,229 | |
| Total | | | 1,704 | | | | | | | | 1,704 | | | | | |
Exhibits.
| | 31.1 | Section 302 certification by Glenn R. James |
| | 31.2 | Section 302 certification by Mary T. Minch |
| | 32.1 | Section 906 certification by Glenn R. James |
| | 32.2 | Section 906 certification by Mary T. Minch |
SIGNATURES
Pursuant to the requirements 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.
| | RENAISSANCE LEARNING, INC. |
| | (Registrant) |
| | |
| | |
| May 9, 2011 | /s/ Glenn R. James |
| Date | Glenn R. James |
| | Chief Executive Officer and a Director |
| | (Principal Executive Officer) |
| | |
| | |
| May 9, 2011 | /s/ Mary T. Minch |
| Date | Mary T. Minch |
| | Executive Vice President-Finance, Chief Financial Officer and Secretary (Principal Financial and Accounting Officer) |
Index to Exhibits
| | | Section 302 certification by Glenn R. James |
| | | Section 302 certification by Mary T. Minch |
| | | Section 906 certification by Glenn R. James |
| | | Section 906 certification by Mary T. Minch |
