Houghton Mifflin Harcourt Company
Q1 2021 Earnings Call Transcript

Published: 9 May 2021

[Operator:]

Good day and thank you for standing by. Welcome to the HMH First Quarter 2021 Earnings Conference Call. I would now like to hand the conference over to your speaker today, Senior Vice President of Investor Relations, Brian Shipman. Please go ahead.

[Brian Shipman:]

Thank you and good morning everyone. Before we begin, I would like to point out that the slides referred to on today’s call can be found on the Investor Relations section of our website at hmhco.com. A replay of today’s call will be available until May 15, 2021 and the webcast will be available on our website for 1 year. Our 10-Q was also filed earlier this morning, along with our first quarter 2021 earnings press release.

[Jack Lynch:]

Thanks, Brian and good morning everyone. Today, I would like to briefly walk you through the results for our first quarter, then in the wake of our divestment of HMH Books & Media I would like to devote a good portion of our time this morning to our strategy as a K-12 learning technology pure-play and how we believe HMH is uniquely positioned for growth. And then Joe will discuss our financial strategy and cover our financial performance for the quarter. Starting with Q1, the headline is we are off to a very solid start. We delivered billings growth of 11%. We achieved trailing 12 months free cash flow of $72 million, an improvement of $77 million over Q1 2020. We advanced our digital-first connected strategy and achieved 80% growth in annual recurring revenue year-over-year as well as 142% net retention for our subscription business in the trailing 12 months. During the quarter, we are also pleased to have strengthened our platform and technology leadership bench with fantastic new appointments. Gray Collins, a software veteran, who comes to us for Rapid7 and Intuit, will lead product management and strategy for our Ed platform and Selva Mahimaidas has been promoted to Chief Information Security Officer. These enhancements to our leadership team reinforce our commitment to building innovative solutions that deliver successful outcomes for students and teachers in all learning environments. At the end of Q1, we announced a definitive agreement to sell HMH Books & Media to Harper Collins for $349 million. We expect to complete the transaction in the second quarter and we’ll use the net proceeds to further pay down our debt. As you’ll hear from Joe, we’re in an incredibly strong financial position with an enhanced credit profile and balance sheet.

[Joe Abbott:]

Thanks, Jack and good morning everyone. We have outlined three financial priorities to guide our team’s execution and focus. The first is maintaining our strong balance sheet. Our target leverage ratio is less than 2.0x trailing 12 months adjusted EBITDA. We have already taken a number of steps to reduce our gross debt, including the announced sale of HMH Books & Media and we have reduced our leverage ratio to less than 2.7x for the trailing 12 months ended March 31 this year, giving pro forma effect to the planned pay down of debt with the net proceeds of that transaction. While we may on occasion add debt, resulting in leverage ratios above the 2.0x target, our intent is to rapidly deleverage to below this level. As you may have seen, we recently received a ratings upgrade from Moody’s, which is an important validation of our ongoing work to establish HMH as a pure-play K-12 learning technology company with a robust and sustained ability to generate free cash flow. On the heels of our debt pay-down, we also look forward to opportunities to reduce our interest expense even further. Our $306 million in senior secured notes, which carry a coupon of 9%, become callable in February 2022, and we will be monitoring market conditions for the right time to refinance. Finally, we are planning to reserve around $275 million of our year-end cash balance to meet our seasonal working capital needs, which supplements our asset-backed liquidity facility.

[Jack Lynch:]

Thank you, Joe and thanks everyone for joining us for today’s call, which I recognize was a bit longer than usual, but we hope that you found it instructive. Before moving to Q&A, let me just sum up the key points you heard today. First, HMH is the industry’s leading learning technology company with a highly differentiated end-to-end platform solution. Second, cross-selling and connections across the portfolio that improved customer experience is HMH’s unique opportunity to increase our share of the addressable market and provide critical value to educators and students. Third, we have a clear three-point strategy in place focus on shifting our revenue mix to digital and recurring revenue while expanding margins. And finally, we are committed to leveraging our strong balance sheet and free cash flow generation to complement organic growth with tuck-in acquisitions. With that, let’s get to your questions.

[Joe Abbott:]

Operator, this is Joe here. I just want to make sure that you are still with us.

[Jack Lynch:]

Joe, let me suggest that…

[Operator:]

And it looks like our first question will come from the line of Jeff Silber with BMO Capital Markets. Your line is open. Please go ahead.

[Jeff Silber:]

Thanks so much. Really appreciate the thorough presentation. I found it really helpful. And just let me also publicly say, Brian, really appreciate all the help you have given over the years and best of luck in terms of going forward. Couple of questions. You talked about the federal funding and I know it’s a big dollar amount and it’s great to see, not only for your company, but for this country overall. But how quickly can that money be put to work? Let’s say you are getting the $67 billion being thrown out this year, how quickly will companies like you be able to benefit from that?

[Brian Shipman:]

Yes, Jeff. Great question. Thank you for asking it. We are seeing increased demand really as a result of our strategy and the quality of our solutions. However, we are beginning to see the first signs of federal dollars in the market, but as yet not broad-based across the overall market. So you are going to see it trickle in over the course of this year before it ramps up to a pace that you will see a good amount of that $200 million spent over the next 3 years.

[Jeff Silber:]

Okay. Probably so more of industry going forward, but again, some minor benefit this year. Okay, that’s really helpful. And in my follow-up question, it sounds like the company started off the year better than expected. I know some of your initial guidance had included some impact of the federal funding, may not be a big deal this year, but why not raise guidance? I have had a few people ask me that question, so I forget I’d pose it to you.

[Joe Abbott:]

Yes. Thanks, Jeff. It’s Joe. Listen, as we said on the call, we anticipate really solid financial performance this year. But when you do look at that stimulus effect, it is something that is going to be spread over multiple years, not just 2021. So we are very optimistic – cautiously optimistic about potential upside this year, but we feel it’s prudent to be consistent with our historical approach and not raise guidance after the first quarter.

[Jeff Silber:]

Okay, fair enough. Thanks so much. I will get back into queue.

[Operator:]

And our next question comes from the line of George Tong with Goldman Sachs. Your line is open. Please go ahead.

[David DeMay:]

Hi, thanks. This is David on for George. Could you provide an update on the California and Florida adoption cycles and how HMH is positioned in those cycles?

[Brian Shipman:]

Yes, I’d be happy to. Nothing to add from last quarter on California, that is an adoption for science that we believe is stretching over multiple years, typically its 3 years and we expect it to continue on for 3 plus years as a result of the effects of the pandemic, so, no change from the comments last quarter. And as it relates to Florida, same thing, really no change, just as a reminder, we – in terms of 6-12, performing in line with our expectations, K-5 underperforming our expectations and then in intervention, exceeding our expectations. And I think this is a great example where we talk about a connected comprehensive solution as a key differentiator vis-à-vis our competition, our performance in Florida really shows the strength of that portfolio when you can sell not only in core, but services as well as intervention and assessment. So, we feel good about Florida and good about Florida as a showcase for our strategy.

[David DeMay:]

Okay, thank you. Very helpful. And then could you also talk about traction with cross-selling and supplemental materials with core curriculum?

[Brian Shipman:]

Yes. Yes, you see in the results, 51% of our sales in Q1 were “connected sales” and that’s a list you can almost think of using the publishing vernacular. That’s kind of our front list, if you will. We don’t refer to it that way, but it’s about 20 or so products that are in the bag of our salespeople and 51% of all of our billings were connected. So, we feel great about the cross-selling that our sales organization is doing, cross-selling core to supplemental or core to intervention or supplemental to intervention and taking a greater share of that $200 per year per student spend for instructional materials.

[David DeMay:]

Great. Thank you.

[Operator:]

Thank you. And our next question comes from the line of Jason Bazinet with Citi. Your line is open. Please go ahead.

[Jason Bazinet:]

Thanks. I just had a longer term question. Where do you think ARR as a percentage of your overall billings can go in say 5 years?

[Brian Shipman:]

Yes. Jason, it’s obviously an area that we are very focused on. You could see the growth in the ARR and the market is like subscriptions. And the reason why the market likes it is you have to prove your value each and every year and in K-12 that means show me how you are improving student outcomes. So, we haven’t disclosed nor have we come up with a number in 5 years of what ARR will be, but we see a steady shift from non-recurring to recurring billings over the next several years.

[Jason Bazinet:]

Okay, thank you.

[Operator:]

Thank you. And I am showing no further questions at this time. And I would like to turn the conference back over to Jack Lynch for any further remarks.

[Jack Lynch:]

No. I just wanted to thank everyone for joining us on our call today and we look forward to speaking with you again on Q2 earnings call in August. So, have a great day. Thank you.

[Operator:]

This concludes today’s program. Thank you for participating. You may now all disconnect. Everyone, have a great day.