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Magic isn't enough for Harry Potter publisher
Wall Street applauds Scholastic's first-quarter results. But even blockbuster 'Half-Blood Prince' sales can't budge company's full-year outlook.
By Robert Walberg
It was a magical quarter for Scholastic Corp. (SCHL, news, msgs), as the leading publisher of childrens books reported a lower-than-expected loss due to strong sales of "Harry Potter and the Half-Blood Prince." Bolstered by the launch of the latest installment in the Potter series, revenues for the quarter jumped 54%. Scholastic's quarterly loss dropped to $21.2 million from $50.5 million a year ago.
The surprisingly good results cast a spell on Wall Street, with the stock soaring 4%. But the fact that the company didnt raise its full-year fiscal 2006 outlook, despite the better-than-expected first-quarter results, suggests that investors embracing the stock today might end up regretting the fact in the months to come.
One reason the company might have been guarded about raising its full-year outlook is that revenues that traditionally hit later in the year in the Educational Publishing unit are starting to shift into the first quarter. Bolstered by the launch of a new edition of its highly successful reading intervention program, the educational unit saw first-quarter sales jump 9%, year-over-year. If managements assessment is correct, though, and late-year sales are merely shifting to the first quarter, then its easy to see why the company kept its full-year guidance in place.
Harry hits a wall
Another reason investors should be a little gun-shy about future results is that, despite the huge first quarter sales of Harry Potter and the Half-Blood Prince, the company does not expect to draw much second quarter strength from the book. That's disappointing considering that the series should receive a lift from the November release of the movie "Harry Potter and the Goblet of Fire," as well as the traditional boost around the holidays.
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If "Half-Blood Prince" sales prove disappointing during the holiday season -- a distinct possibility given the strong advance sales -- the number of books returned to Scholastic could exceed expectations and act as a drag on future results.
Scholastic could even take a hurricane hit. The company noted that Katrina will have an adverse impact on its school book fair and book club business because of school closures in the region. But the Gulf region affected by Katrina accounts for less than 1% of total book fair and club sales, so the impact should be small.
Rita's threat
Hurricane Rita has the potential to cause much more damage to sales and earnings because of the size of the Texas book market. If Rita does anywhere near the damage in Texas that Katrina did to Louisiana and Mississippi, then business could get hit hard.
Like any company that ships its product, Scholastic will be hurt by higher energy costs caused by the storms. The costs of goods sold in the first quarter already jumped by 66%. Most of this was due to expenses associated with the Harry Potter launch, but rising fuel costs will certainly weigh on future results -- even if marginally.
Scholastics management team deserves credit for orchestrating a quarter that saw huge sales in its Harry Potter franchise. Management should also be applauded for continuing to shore up the balance sheet by growing free cash flow and paying down debt. But its important to recognize that the first quarters numbers provided the illusion of better operating results and no more. And again, they didn't even prompt management to change its full-year outlook
The first quarter was a spellbinder, but investors should never be taken in by a little sleight of hand.
At the time of publication, Robert Walberg did not own or control shares of companies mentioned in this column.
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