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Rating Action:

Moody's changes Pearson's outlook to stable from negative

04 Mar 2019

London, 04 March 2019 -- Moody's Investors Service, ("Moody's") has today changed the outlook on Pearson plc to stable from negative. Concurrently, Moody's has affirmed Pearson's Baa2 senior unsecured ratings.

The agency's decision to change Pearson's rating outlook to stable reflects (1) Pearson's healthy credit metrics driven by its conservative balance sheet management in a challenged revenue growth environment; (2) its steady progress against its strategic priorities; and (3) an underlying improvement of 8% in its adjusted operating profit in 2018 helped by the cost efficiency program which is running ahead of plan.

"In the backdrop of muted topline performance, Pearson continues to remain focused on improving its profits in 2019 via implementing its cost efficiency program, maintaining low debt leverage and positioning its business for growth by implementing its strategic priorities," says Gunjan Dixit, a Moody's Vice President -- Senior Credit Officer and lead analyst for Pearson.

"While Pearson's underlying revenue declined in 2018 by 1% due to the worse than expected performance in US higher education and K-12 and UK qualifications, the company has guided that it is on a path to return to revenue growth in 2020, helped by the good execution of its strategic growth opportunities," adds Ms. Dixit.

RATINGS RATIONALE

In 2018, Pearson's underlying revenues in North America (67% of total revenues) declined by 1% affected by the -5% decline in Higher Education Courseware (38% of North American revenues) while its Core division was flat and Growth division grew by 1%. Nonetheless, the company's adjusted operating profit rose to GBP 546 million in line with its guidance range of GBP 520 million to GBP 560 million. Profitability was significantly helped by Pearson's cost efficiency programme which is ahead of plan with incremental cost savings of GBP 130 million achieved in 2018 at an exceptional restructuring cost of GBP 102 million.

In 2019, Moody's expects Pearson to report adjusted operating profit of around GBP 590-640 million (before IFRS16 implementation or GBP 610-660 million post IFRS16) including the K-12 business which is being sold to Nexus Capital Management for an initial cash consideration of USD 25 million and an unconditional vendor note of USD 225 million, expected to be repaid between three and seven years. With the disposal of K-12 courseware business, Pearson will be losing around GBP 20 million in adjusted operating profit, but it will be exiting a business with fairly low margins (5.5% in 2018 vs. an estimated company average of 13%). Profits will nonetheless be helped by GBP 130 million of incremental cost savings in 2019 leaving GBP 55 million or more of further savings in 2020 as the annualised benefit of the program flows through. Restructuring costs in 2019 are expected to be GBP 150 million as the program is completed. While Moody's takes comfort from the successful execution by the company on its cost efficiency and simplification program thus far, it still takes into consideration some execution risks for the remainder of the program.

Pearson's 2018 reported Net debt to EBITDA was just 0.2x (or 1.1x on an IFRS 16 lease adjusted basis). Net debt decreased to GBP 143 million (2017: GBP 432 million) reflecting cash generated in the business, disposal proceeds aggregating GBP 245 million, partially offset by the strengthening of the US Dollar relative to Sterling, dividend payments (GBP 136 million) and share buybacks (GBP 153 million). In comparison, at year-end 2018, Moody's adjusted Gross Debt/ EBITDA for Pearson was around 2.0x.

Pearson has indicated that it intends to maintain a conservative capital policy as it progresses through its transformation and to allow flexibility to invest in future growth opportunities. This includes a measurable target of maintaining reported net debt/EBITDA (before IFRS16 implementation) of below 1.5x. Moody's therefore expects the company's leverage to remain low in the near term.

Pearson aims to restore growth in its business by focusing on (1) growing market share in the Courseware and Assessment businesses that account for 65% of revenues (which declined by 4% in 2018), by making them more digital; (2) invest more in structurally growing businesses (such as Global Online Program Management, Connections Academy, Professional Certification (VUE) and Pearson Test of English Academic) that account for 35% of revenues (grew 7% in 2018); and (3) making Pearson's business simpler and more efficient. While progress towards these objectives have been steady thus far, Moody's continues to factor some execution risks.

While healthy credit metrics support Pearson's Baa2 rating and stable outlook, Moody's recognizes that Pearson remains exposed to the (1) reduced scale and scope of activities concentrated in the education sector, with asset disposals over time (notably Financial Times and 50% stake in The Economist Group in 2015, 22% stake in Penguin Random House in 2017); (2) continued difficult environment for US higher education in which the company's business is expected to decline by 0% to -5% in 2019; (3) structural pressures such as increased usage of second hand books, competition from open educational resources affecting the publishing sector; (4) evolving competitive landscape as the company moves more towards digitalization; and (5) execution risks associated with its business strategy execution aiming to restore growth in the business by 2020.

RATIONALE FOR STABLE OUTLOOK

The stable outlook reflects Pearson's healthy credit metrics helped by its conservative balance sheet management at a time when the business is facing a challenging operating environment and is in the middle of executing a turnaround strategy.

WHAT COULD CHANGE THE RATINGS UP/DOWN

Pearson's Baa2 rating could come under downward pressure should the underlying operating environment does not improve in line with company's plans or the company eventually levers up its balance sheet such that Moody's adjusted RCF/net debt falls below 20% and gross debt/EBITDA above 2.75x for a sustained period with no near-term expectation of restoring the ratios to within the guidance for the rating.

Upward rating pressure is currently very limited given the challenging operating environment. Upward pressure on the ratings would require the company to restore revenue, EBITDA and cash flow growth in the business and sustainably maintain a Moody's adjusted leverage well below 2.25x, RCF/Net Debt above 25% and Free Cash Flow/Net Debt in the mid-teens.

LIST OF AFFECTED RATINGS

Affirmations:

..Issuer: Pearson plc

.... Issuer Rating, Affirmed Baa2

..Issuer: Pearson Funding Five plc

....Backed Senior Unsecured Regular Bond/Debenture, Affirmed Baa2

..Issuer: Pearson Funding Four plc

....Backed Senior Unsecured Regular Bond/Debenture, Affirmed Baa2

Outlook Actions:

..Issuer: Pearson plc

....Outlook, Changed To Stable From Negative

..Issuer: Pearson Funding Five plc

....Outlook, Changed To Stable From Negative

..Issuer: Pearson Funding Four plc

....Outlook, Changed To Stable From Negative

PRINCIPAL METHODOLOGY

The principal methodology used in these ratings was Media Industry published in June 2017. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

COMPANY PROFILE

Pearson is a global education company. The group reported GBP 4.1 billion in sales and GBP 546 million in adjusted operating profit in 2018.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Gunjan Dixit
VP - Senior Credit Officer
Corporate Finance Group
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Ivan Palacios
Associate Managing Director
Corporate Finance Group
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Releasing Office:
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

No Related Data.
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