Pearson : 2023 Full Year Results Transcript

Pearson 2023 Full Year

Results

Friday, 1st March 2024

Pearson 2023 Full Year Results	Friday, 1st March 2024

Pearson 2023 Full Year Results

Omar Abbosh

Chief Executive Officer, Pearson

Good morning, everyone and welcome to Pearson's 2023 preliminary results. Today we will host a presentation followed by a Q&A session. There'll be two ways to submit your questions. If you'd like to ask your question personally, please use the numbers that are displayed on screen. These lines will be open following the main presentation. Alternatively, please type your questions into questions tab at the top right of the screen and we will address them in turn at the end. And with that, I will hand over to Omar.

Good morning, everyone. I am Omar Abbosh. It is good to be here with you today for my inaugural results presentation. I am proud to be here representing Pearson and its people who are so committed to helping learners around the world. First off, I will make some introductory comments sharing my early impressions of Pearson. Next, Sally Johnson, who's here with me in London, will take us through our business unit financials for 2023. Then I will conclude the presentation part with our 2024 strategic priorities, and after that, we will open up for questions where we are joined by Art Valentine, Gio Giovannelli, and Tom ap Simon from our leadership team.

Financials

Let me begin with our financials. It has been yet another year of strong operational and financial performance for Pearson. Once again, we have surpassed initial expectations with underlying sales growth of 5% and operating profit up 31% to 573 million pounds. 2023 also saw significant margin expansion from 12% in 2022 to 16% this year. This is the strongest margin Pearson has seen since 2013.

Our cash position is excellent with a 74% increase in free cashflow and 102% operating cash conversion. As a sign of our continued confidence in the cashflow growth of Pearson, I am pleased to announce an extension of our share buyback by an incremental 200 million pounds. These results reflect exciting progress across our whole business, and I want to call out the especially strong financial contributions from assessments and qualifications and English language learning.

Overall, this outturn puts us in good stead moving forward and helps us invest in further growth opportunities that will ensure we drive continued shareholder value expansion in the coming years. As you know, I joined Pearson eight weeks ago. Let me tell you what I have been up to. I spent over 90 hours with leaders from across the businesses and corporate functions in hourly one-on-one sessions. I have also had in-depth conversations with over two dozen customers and spend time with each of my leadership teams' own management teams to hear their perspectives on many aspects of our business, and also so that I can dig into our operations.

I spent time with several of our investors as well as other participants in our markets such as private equity owners of educational and learning assets. The simple reason for this work is to establish priorities and their associated actions. These growth-oriented priorities address strategic operational product, people related and cultural topics. I'd like to share a handful of observations from my first weeks at Pearson. The headline is that I believe Pearson is a rare type of company with the ability to deliver long-term sustainable growth while also pursuing a purpose that genuinely helps the lives of millions of people around the world.

How do we do this? Well, at Pearson we do three things. We create and curate world-class learning and assessment content. We distribute that content digitally and through physical materials to millions of users globally, and we help individuals, employers, and institutions build and verify skills. So underpinning these three activities is the trust that the Pearson brand carries. I found that customers around the world often in high stake settings rely on the products and services that we provide and really place a great deal of trust in what we do.

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Pearson 2023 Full Year Results	Friday, 1st March 2024

The Foundation for our Continued Momentum to Drive Profit Growth

This is the trust in the quality of the content and assessments, trust in the efficacy of the learning and trust in the reliability of the outcomes. This leads to deep and long-lasting relationships with many of them giving us unrivalled competitive advantage in the market. We have incredibly mission-driven people at Pearson and they fuel our purpose and culture. For sure, our employees are experts in their various fields, but what really stood out to me in my many conversations is how deeply they truly care about helping other human beings make progress in their lives. Those of you who've studied culture will understand how hard that is to manufacture.

I am pleased to see that we are well on the way to embedding digital and technology capabilities into the DNA of our company. More than 80% of our products and services are now digital or include digital components, and this is true of our Pearson test of English delivery view assessments, our higher ed courseware, and most recently in the first for the UK in our GCSE qualifications. We have about 3000 technologists working across the business to continually improve end customer experiences with the application of digital and AI in our products and services.

Finally, we are sitting on vast data sets that have tremendous value in the development of next generation AI models. In 2023, these included 230,000 tutoring sessions, 347 billion total user engagement points across higher ed, 1.2 billion student interactions at our Connections Academy, 1.4 billion exam item at view where we deliver 20.7 million exams,

366 million unique data points across Q Interactive in our clinical platform and around 260 billion data points for [inaudible].

First Impressions

On top of this, in workforce skills, we analyse eight to 12 million job ads per month across the US, UK, Australia, and Canada, and map each job ad to an occupation and the skills found in our skills ontology. In summary, our brand trust, customer relationships, trusted IP mission- driven people and culture, technology assets and products, plus these huge data sets provide the foundation for our continued momentum to drive profit growth into the future.

Three Reasons I Joined the Company

To close off this introduction, my early time here has increased my conviction in the three reasons that I chose to join Pearson as CEO. Firstly, Pearson is a strong company, one that is performing consistently well and has good growth optionality for the future. Today's results are a continuation of our recent growth track record and our consistent performance, which underpin my confidence.

Second, I was drawn to Pearson by its unique and compelling purpose. Our ability to help people on their learning journey quite literally changes their lives. We have countless examples of this which we will share more of. We truly help people in the live the life they imagine precious few other companies can claim this.

Thirdly, our world is at an inflection point with AI. The next decade will be all about the application of AI in business, in our communities and in our individual lives. The opportunities to use AI as a tool for better learning while driving growth in our business are immense. We are well positioned to take advantage of this future. So in summary, Pearson is strong, has an incredible mission in the world that our people are utterly committed to and is positioned to be a winner in AI. Let me hand over to Sally here.

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Pearson 2023 Full Year Results	Friday, 1st March 2024

Sally Johnson

Chief Financial Officer, Pearson

Financial Review and Outlook

Thank you, Omar, and hello everybody. I am going to come on and talk about guidance in a moment, but first, I want to reflect on the strength of our 2023 results. We exceeded the profit expectations that we had at the beginning of the year by 30 million pounds increasing profit by 31%. We secured 120 million pounds of cost savings, which alongside the margin from sales growth increased our margin from 12 to 16% and we have generated an operating cash conversion of 102%, increasing free cash flow by 74% despite one-time reorganisation costs, which will fall away in 2024.

It is this continued financial progress that underpins our confidence that we will be able to deliver another good year in 2024 and that we are on track to meet our 2025 guidance adjusted earnings per share increased 12% to 58.2 p reflecting the strong increase in operating profit and reduced share count from our share buyback. This was partially offset by interest and tax given the one-off provision benefits we had last year. Net debt increased slightly with strong operating cash utilised by the acquisition of PDRI and dividends alongside the share buyback.

Balance Sheet

Our balance sheet remains strong, providing us with a firm platform from which to invest for future growth whilst continuing to distribute cash to shareholders through our dividend policy and where appropriate through ad hoc buybacks. Given our strong 2023 results and our confidence in the future, the board are proposing a 6% increase in the final dividend for a full year dividend of 22.7 P.

In 2023, we delivered underlying group sales growth of 5%, excluding by division assessments and qualifications grew 7% driven by a 10% growth in view, particularly in the IT and healthcare sectors. We saw good growth across US student assessments, clinical and UK and international qualifications due to new contract wins, government funding and price increases.

Virtual learning decreased 20% for the full year, primarily due to the expected decrease in OPM. Virtual schools declined 2% for the full year with lower enrolments due to COVID normalisation in the 2223 academic year and the loss of a larger public school in the 2023, 2024 academic year. This was partially offset by an improvement in funding. Higher education was down 3% for the year. In line with our expectations in the US, sales declines were driven by a loss of adoptions to non-mainstream publishers in the first half of the year. As well as pricing mix. There was strong growth in inclusive access with 22% sales growth and we also delivered 2% growth in platform units.

English language learning delivered outstanding growth of 30%. All three segments delivered with PT, the standout contributor. Test volumes were up 49% against the backdrop of favourable migration policy in Australia and market share gains in India. Workforce skills grew 11% for the full year with solid performances in both vocational qualifications and workforce solutions. Strategically, we won several contracts in view aided by our acquisition of PDRI. We extended our onscreen exams and we drove growth in our digital platform and clinical. Our renewal rate in view remains strong at 94%, down slightly from last year due to one particular factor.

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Pearson 2023 Full Year Results	Friday, 1st March 2024

In virtual schools, we launched our careers pathway program in five schools with more to come in 2024. This important initiative builds synergies with our workforce focused businesses and support future enrolment growth. It will also enhance the consumer's experience in a business where we already have a really high NPS score of 67, and we are also pleased to have recently secured new schools in the states impacted in the 2023, 2024 and 2024, 2025 academic years providing us with a strong base for future growth.

In higher education, we improved our technology support leading to better NPS score amongst faculty. Our new go-to market strategy has led to higher retention rates and new adoptions. We launched generative AI study tools with select titles for Pearson Plus and mastering, and we will extend this for fall 2024 to more than 40 titles, and Pearson Plus subscriptions passed the one million milestone and we monetise channels for the first time in English language learning.

We won recognition for PT in Canada for both student direct stream and immigration purposes. In workforce, we want a contract to provide BTEC to the Jordanian Ministry of Education and we are seeing success across digital credentialing and strategic workforce planning solutions where we have several new contract wins including Cleveland's Clinic and ServiceNow.

Summary

So in summary, we are winning contracts and investing in our range of products to drive sustainable profitable growth. Group profit grew 31% on an underlying basis to 573 million pounds with significant margin progression increasing 4% to 16%. This was driven by delivery of that 120 million pounds of cost efficiencies and operating leverage on sales growth partially offset by increased inflation and investment at a divisional level. Assessments and qualifications grew its margin to 22% through operating leverage on sales and margin and OPEX efficiencies partially offset by inflation.

Virtual learning margins increased to 12% due to cost efficiencies and the disposal of polls. Higher education margins increased to 13% with the 2023 cost efficiencies weighted towards this division and offsetting the decline in sales and inflation. English language learning margins grew to 11% through operating leverage on sales, partially offset by increased investment and inflation and workforce skills was loss making as we continued to invest in the business with a focus on delivering modular personalised offerings to our pipeline of clients, leveraging our powerful technology stack.

Free Cashflow Generation

Our free cashflow generation is one of the key strengths of our business model. We have maintained a sharp focus on increasing free cashflow as we continue to invest behind opportunities to drive future growth that will support returns for shareholders. We had a strong cash performance with cash conversion of 102%, an operating cashflow of 587 million pounds. This was driven by the trading performance, great cash collections and reduced prod death spend in higher education connected to the cost efficiency program.

As previously discussed, the capital investment profile continues to change with CapEx reducing and focus shifting to investment in product development. The 186-million-pound increase in operating cash has driven hundred 65 million increase in free cashflow. Free cashflow conversion is 93% lower than the 102% operating cash conversion given one time reorganisation costs, which will fall away in 2024. I know many of you like to trace the detailed moving parts across the cashflow, and so you can find a reconciliation to the various disclosures in the prelims in the appendix of this presentation.

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Pearson 2023 Full Year Results	Friday, 1st March 2024

Looking at our balance sheet metrics, net debt increased slightly with strong operating cash utilised by the acquisition of PDRI and dividends alongside the share buyback. Leverage remains comfortable at one times net debt to EBITDA. And as a reminder, when we think about the application of our capital allocation policy, we calculate headroom against our most stringent rating. Agency metric, which is currently equivalent to a ratio of approximately two times return on capital was 10.3% compared to 8.7% in 2022, and we continue to be disciplined in our investments and rigorous about securing required returns.

Capital Allocation

Turning to capital allocation, we have got a disciplined capital allocation policy with a focus on maintaining a strong balance sheet investing both organically and inorganically, paying a progressive and sustainable dividend and returning surplus cash to shareholders. We have almost finished the 300-million-pound share buyback we announced last September, and today we are announcing its extension by 200 million pounds given the strength of our cashflow in 2023 and expectations for 2024. Administratively, this will commence as soon as possible.

Going forward, we will continue to apply our capital allocation policy, and through strong cash generation, we will continue to invest behind opportunities to drive further growth and create value for all our stakeholders.

Outlook

Moving to the 2024 outlook, we expect group underlying sales growth, adjusted operating profit and tax to be in line with current market expectations. Given our share buyback and its extension announced today, our interest charge will increase to circa 45 million pounds. We also continue to expect to achieve group sales growth of mid-single digits excluding OPM and the strategic review businesses across the 2022 to 2025 period with margins of 16 to 17% expected in 2025.

Divisional Expectations

Divisional expectations across that period remain the same, apart from workforce where we expect double digit growth and English where we expect growth in the teens. Given the changing shape of the group as you think about the role of FX and our guidance, you should now assume that a one cent move against the pound equates to around five million pounds of adjusted operating profit.

Growth Opportunities

I want to turn now to the considerable growth opportunities we have across the business. I will take each division in turn. We continue to expect assessments and qualifications to grow sales at low to mid-single digits for 2024 with opportunities for increased growth beyond that. In Pearson view, we will finalise the successful integration of PDRI and expand into adjacent markets accessing the technology cert prep market. We are going to expand our qualification business internationally and use our technology abilities to launch innovative future ready assessments.

Clinical offers us several opportunities as the market expands given macro trends. We will continue to invest in our digital intellectual property, which drives our competitive advantage and in adjacent opportunities such as the application in pharma clinical trials for virtual schools, we expect enrolments to be lower in the 2024 to 2025 academic year due to the loss of a major school in that and for annual sales to be down a similar level to 2023. We have recently secured those new schools in the states impacted by the 2023, 2024 and 2024, 2025

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Pearson 2023 Full Year Results	Friday, 1st March 2024

academic years, and whilst this will not be material for 2024, it will help the business to return to growth thereafter.

The other factor driving growth will be the career pathways program with an additional 15 schools in 2024. We expect higher education to return to top line growth in 2024 as we receive a full year benefit from the implementation of our new go to market strategy with continued momentum from Pearson Plus. We will also benefit from continued investment in our digital platforms channels and those AKI[?] capabilities. We expect margins to improve further in higher ed with further cost efficiencies partially offset by above the line restructuring charges in 2024.

Divisional Growth Opportunities

In English language learning, we continue to expect high single digit growth for 2024. We will see continued growth in the Pearson test of English and in the institutional market through selling end-to-end solutions that combine courseware with assessments and certification and [inaudible] will grow through platform improvements and the introduction of workplace English for workforce skills. We will achieve high single digit growth as we drive further international expansion of our vocational qualifications and continue to make headway with our workforce solutions business.

Phasing and Cash

In terms of phasing, you'll remember the weighting of growth to H1 compared to H2 for the assessment businesses last year. This waiting will realign due to the comp as well as the timing of product releases. There will also be a waiting of growth to Q1 from Q2 in virtual schools due to the timing of funding and in higher ed, we expect H1 2024 to mirror H2 2023 and growth in H2 2024. Cash will continue to be a focus and we expect to achieve a 95 to 100% free cashflow conversion rate given that high operating cash conversion with no onetime reorganisation costs anticipated this year. We are assuming there is not a material divergence between the FX rate used to translate the P&L and cash flows.

Summary

So in summary, we have achieved financial expectations in 2023. We achieved 120 million pounds of cost savings, expanding margin by 4% to 16%. We are on track to meet expectations in 2024 and remain committed to our targets out to 2025. We have a strong balance sheet providing optionality and are extending our share buyback by 200 million pounds, and we have improved our free cashflow and expect 95 to 100% conversion in 2024. And with that, I will hand back to Omar to bring us to a close.

Closing Remarks

Omar Abbosh: Thank you, Sally. As you've heard, we have delivered strong, steady progress across the group, both in terms of our financial results and our business momentum. We fully intend to build on this track record of execution by continuing to deliver on the promises we make to learners, customers and shareholders. So for 2024, we are laying out three strategic priorities for the year.

2024 Priorities

Firstly, we will deliver on our current 2024 market expectations for sales growth and operating profit with an intense focus on organic growth and execution. This is about building an ever stronger performance culture, sales disciplines, and customer experience orientation. Secondly, we are sharpening our focus on the enterprise market. This is a large multi-billion-

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Pearson 2023 Full Year Results	Friday, 1st March 2024

dollar market with no dominant player presenting us with a good opportunity. My past experience with hundreds of companies' connections with dozens of enterprise CEOs, plus my recent various customer conversations have made it clear to me that Pearson has many of the capabilities that can help organisations with a challenge ahead of building an adaptable relevant workforce that is properly augmented by AI.

I'd like to thank Mike Howell for his leadership of the Workforce division, which has been at the centre of the capabilities we have built to date, and I look forward to welcoming Vishal Gupta as the new president of workforce skills whose deep experience in enterprise sales leadership will be valuable to us in our next steps and making the most of this opportunity. Finally, we are increasing the intensity by which we infuse our perks and services with a wide range of AI capabilities to ensure that we lead on innovation for our end consumers, for example, across Pearson Plus and our courseware platforms.

Everything that you've heard today points to a bright and exciting future for Pearson. What Pearson does matters to the world. So it is imperative that we use our strengths to continue building a company that drives value growth so that we can confidently pursue our purpose of adding life to a lifetime of learning and therefore benefiting the world. With that, Sally and I, along with Art, Gio and Tom, will be happy to take your questions. Operator, over to you.

Q&A

Operator: Thank you. To ask a question, please press star followed by one on your telephone keypads if you have dialled in on the phone lines today. We have the first question from Luke Holbrook of Morgan Stanley.

Omar Abbosh: Hi, Luke.

Luke Holbrook (Morgan Stanley): Yeah, good morning, everyone, and welcome, Omar. My first question is just on the buyback, how did you settle on 200 million as the right amount for the buyback? Why potentially not more, and I have just seen you put a press release saying that will go through till August. And then secondly, just on the workforce skills segment, it looks like you channelled in maybe 15 million pounds extra of investment than what the market was expecting through the second half of last year. Just interested to hear where that investment was channelled into and are we to expect any change or significant change in strategy following the new ahead of the segment? Thank you.

Omar Abbosh: Thank you very much, Luke. I will just say one little word and then I will hand over to Sally on the buyback. I think the message I'd like you to take is simply that our free cash flows are strong. We are confident that they will continue to be strong, and we just wanted to make sure that the market knows that we will continue to be very prudent, careful stewards of shareholder capital and that is it. But Sally, do you want to dig into that a little bit more?

Sally Johnson: Yeah, sure. I would not raid too much into 200 versus 300. It is about half of the free cashflow that we are expecting to make this year. So we have got an operating free cashflow conversion that is really, really strong, and then in applying our capital allocation policy, we have decided to make that share buyback.

Omar Abbosh: And then on the workforce skills investment from last year.

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Pearson 2023 Full Year Results	Friday, 1st March 2024

Sally Johnson: Sure, we invested in workforce skills about what we were expecting to at the beginning of the year. I think probably in terms of that profit piece, it was the growth in sales where if you remember, we pivoted in the middle of the year from the approach that we had had to the more modular approach and therefore the operating and leverage on sales was not quite what we had expected. But I think the thing that I want to underline here is that we are very excited about the growth that we have in workforce skills. The market opportunity is absolutely there and the growth that you see in the future will be strong with strong operating leverage coming as well. So this year or 2023 is really about that investment spend.

Operator: Thank you. We now have Sammy Saab[?] with BNP Paribas.

Sally Johnson: Hey, Sammy.

Sammy Saab (BNP Paribas): Thank you very much, and good morning, Omar. Good morning, Sally.

Sally Johnson: Morning.

Sammy Saab (BNP Paribas): I have three questions please. First, Omar, what are your current views in terms of the risks and opportunities in virtual schools, please, in the context of regulatory risk in particular. Secondly, what impact would you expect on their higher ed growth if the US Department of Ed was to go ahead and make inclusive access and opt-in rather than the current opt-out model? And lastly, given your strategy of investing to go into test prep at view, how do you expect margins at A&Q to develop in 2024 and 2025? Can they continue to expand or will they briefly decline as you increase investments there? Thank you.

Omar Abbosh: Thank you very much for those questions, Sammy. It is good to hear you. I am going to go with the first two to Tom, and then the third one I will pick on Art. So Tom, do you want to comment on how we are seeing the risks and opportunities in virtual schools first please?

Thomas ap Simon: Yeah, thank you, Sammy. A few thoughts really from our perspective, if you take a step back, this is a business that is now 30% bigger in terms of students pre pandemic NPS is up, academic outcomes are up. Obviously, we have lost the two schools which have impacted growth. As Sally highlighted. We are thrilled with the two new school wins that we have got and we see that the underlying performance drivers in this space in terms of improved understanding of the space, better awareness of what virtual schools can do for students to continue to support the growth that we are seeing in the future. So we feel good about that.

In terms of higher education and the impact of the existing DOE discussions, obviously, it is something we are monitoring very carefully. Clearly, it is ongoing at the moment. Clearly, inclusive access is an important part of what we do from a business model perspective that we feel good about our underlying prospects and we will wait to see what happens. And regardless of that, those regulations are unlikely to come in until 2025 or 2026 depending on what happens with those. So we still feel good about our underlying opportunities to grow in higher education.

Omar Abbosh: Thank you. Tom. And Art, do you want to comment on view and margins?

Arthur Valentine: Yes, absolutely. Sammy, you are dead on. Entering more forcefully into that test preparation space, excuse me, and taking advantage of the traffic we already have

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Pearson 2023 Full Year Results	Friday, 1st March 2024

coming to view to receive those certification tests is an important part of our growth pillars. The margin impact of that is contemplated already within the guidance that we are giving. So the strong performance of the business absolutely gives us the ability to achieve those growth plans while delivering on the margin guidance that Sally already gave before. So all good.

Omar Abbosh: Thank you, Art. Back to you, operator.

Operator: Thank you. We have the next question from Nick Dempsey of Barclays.

Sally Johnson: Hey, Nick.

Nick Dempsey (Barclays): Yeah, good morning, guys. So first of all, just in terms of your guidance on the return to growth in higher education, I think Sally said that the first half of 2024 we will perhaps be down in the same sort of bracket as second half 2023 minus 4%, and then first half in 2023 was 44% of the year. So I am kind of backing out that you need to grow at four to 5% in the second half of 2024 to get to your guidance. Can you just talk about what's giving you visibility on that? It has always been a market that is been quite hard to predict at this point of the year. Is it share? Is it price? Is it the AI elements? What's making you think you can grow four to 5% in the second half of 2024?

Second question, just want to look at the divisional organic growth verbal commentary for 24 for each division overall, we are guiding to in line with consensus, but each of the divisions is kind of the same or a bit worse than consensus as far as I understand it. Is there a bit of element of caution built into those verbal ranges for each division or am I missing something there? Then the third question, just Mark, are you happy with the portfolio as it stands or could disposals form any part of your strategy? And also, are you happy with how well invested the group is across all of the areas where you might be able to drive organic growth?

Omar Abbosh: Thank you very much, Nick. I think, Sally, those two first ones are a bit guidance oriented, so maybe you should take them.

Sally Johnson: Yeah, so I am going to take the middle one first and then I will touch on some of the elements of higher ed and turn over to Tom to talk about what he's seeing from a market point of view. And then we will come back to you for the last one. So in terms of divisional organic growth guidance, I am giving ranges, but we are really confident with hitting each of those and overall, I can't see your model, but really confident on hitting the group, which is about 4% organic growth revenue for 2024, and that is how we have modelled things for the year. So I do not think you are missing anything, but happy to follow up on the detail that you've got if that is helpful.

And then in terms of higher ed returning to growth and the phasing, probably a little bit less of a decline in the first half of the year than you quoted. I was kind of trying to give the shape of it rather than the actual numbers, but you are quite right. We will see growth in the second half of the year and the things that you call out are all contributory factors to that. So share growth, AI really important to that. But also the product enhancements that Tom and the team have been making, I am sure Tom will come and talk about the things that he's been doing in the sales team, price and element, but probably not a particularly strong one within that. So Tom, do you want to talk about what you are seeing in the market at the moment?

Thomas ap Simon: Yeah, sure. As Sally I think highlighted, there is a broad range of factors. We know that enrolment stabilised in 2023 and grew slightly up 1% in the space that we were

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