Pearson: progressive education

If US performance does not improve, the dividend will have to be cut
John Fallon, Pearson chief executive © Bloomberg

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Pearson used to be a growth stock with a progressive dividend. Several profit warnings in recent years have dented its growth credentials. Now investors fret that the payout is in danger. The company can offer reassurance on dividends but fewer guarantees about future revenue increases.

A trading update on Monday revealed that North American sales fell 13 per cent in constant currency terms over the nine months to the end of September. They have declined by a fifth since 2012. At the same time, a slowdown in both Europe and emerging markets has seen North America as a proportion of overall sales grow to almost two-thirds.

Growth in enrolment in US higher education, which accounts for about two-fifths of total operating profits according to Liberum, has been negative for the past four years. Pearson, former owner of the Financial Times, believes a recovering economy should boost the number of college students. But recent bankruptcies at for-profit universities, and rules that might restrict their access to cheap government funding, could just as easily dent them further.

Two factors will help the company. An obvious one is the currency: if maintained, the current sterling/dollar exchange rate could boost full-year earnings per share by 8 per cent. Strip out restructuring charges, add that foreign exchange kicker — and a dividend of 52p should be covered by earnings per share of 54p-59p. Currency movements are an unpredictable fillip, though. A more durable one is cost reductions. John Fallon, Pearson’s chief executive, is in the process of ditching 10 per cent of the company’s workforce. That should result in another £100m of annual cost savings from 2017, to add to the £250m achieved this year.

This is welcome, but not enough on its own to get Mr Fallon to his target of £800m in operating profits by 2018 (from a projected £580m-£620m this year). For that, he will still need top-line growth. The market is yet to be convinced that he will get it: the shares fell about 8 per cent on Monday, having underperformed the FTSE 100 by 41 per cent during the past year, and offer twice the index’s yield.

True, the company could always raise more cash by selling its non-educational publishing unit, Penguin Random House. But selling assets to finance dividends is unlikely to inspire confidence. If growth does not return, then the payout will need to fall.

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