Graham : Reports Third Quarter Earnings

Graham Holdings Company (NYSE: GHC) today reported income from continuing operations attributable to common shares of $83.3 million ($14.32 per share) for the third quarter of 2014, compared to $54.1 million ($7.28 per share) for the third quarter of 2013. Net income attributable to common shares was $76.4 million ($13.12 per share) for the third quarter ended September 30, 2014, compared to $30.1 million ($4.05 per share) for the third quarter of last year. Net income includes $7.0 million ($1.20 per share) and $24.0 million ($3.23 per share) in losses from discontinued operations for the third quarter of 2014 and 2013, respectively. (Refer to “Discontinued Operations” discussion below.)

In connection with the Berkshire exchange transaction that closed on June 30, 2014, the Company acquired 1,620,190 shares of its Class B common stock, resulting in 22% and 7% fewer diluted shares outstanding, respectively, in the third quarter of and first nine months of 2014 versus the same periods in 2013. The reduction in diluted shares outstanding has resulted in increased diluted earnings per share amounts in 2014, compared with 2013.

The results for the third quarter of 2014 and 2013 were affected by a number of items as described in the following paragraphs. Excluding these items, income from continuing operations attributable to common shares was $50.6 million ($8.69 per share) for the third quarter of 2014, compared to $52.1 million ($7.01 per share) for the third quarter of 2013. (Refer to the Non-GAAP Financial Information schedule at the end of this release for additional details.)

Items included in the Company’s income from continuing operations for the third quarter of 2014:

• $13.6 million in restructuring charges at the education division and early retirement program expense and related charges at the Corporate office (after-tax impact of $8.7 million, or $1.50 per share);
• $75.2 million gain from the sale of wireless licenses at the Cable division (after-tax impact of $48.2 million, or $8.29 per share); and
• $10.6 million in non-operating unrealized foreign currency losses (after-tax impact of $6.8 million, or $1.16 per share).

Items included in the Company’s income from continuing operations for the third quarter of 2013:

• $4.0 million in restructuring charges at the education division (after-tax impact of $3.1 million, or $0.42 per share); and
• $7.9 million in non-operating unrealized foreign currency gains (after-tax impact of $5.0 million, or $0.69 per share).

Revenue for the third quarter of 2014 was $898.9 million, up 5% from $856.1 million in the third quarter of 2013. The Company reported operating income of $81.3 million in the third quarter of 2014, compared to $78.9 million in the third quarter of 2013. Revenues increased at the television broadcasting division and in other businesses, declined at the cable division and were flat at the education division. Operating results were up in the third quarter of 2014 due to improvements at the television broadcasting and cable divisions, offset by declines at the education division and in other businesses.

For the first nine months of 2014, the Company reported income from continuing operations attributable to common shares of $588.6 million ($85.24 per share), compared to $121.9 million ($16.41 per share) for the first nine months of 2013. Net income attributable to common shares was $958.6 million ($138.79 per share) for the first nine months of 2014, compared to $79.5 million ($10.70 per share) for the same period of 2013. Net income includes $369.9 million ($53.55 per share) in income and $42.3 million ($5.71 per share) in losses from discontinued operations for the first nine months of 2014 and 2013, respectively. (Refer to “Discontinued Operations” discussion below.)

The results for the first nine months of 2014 and 2013 were affected by a number of significant items as described in the following paragraphs. Excluding these items, income from continuing operations attributable to common shares was $153.6 million ($22.26 per share) for the first nine months of 2014, compared to $141.0 million ($19.04 per share) for the first nine months of 2013. (Refer to the Non-GAAP Financial Information schedule at the end of this release for additional details.) The per share impact of these items for the first nine months of 2014 is different than the per share impact of these items for the distinct quarterly periods of 2014, as a result of the timing of the Berkshire exchange transaction.

Items included in the Company’s income from continuing operations for the first nine months of 2014:

• $28.6 million in early retirement program expense and related charges, restructuring charges and software asset write-offs at the education division and the corporate office (after-tax impact of $18.3 million, or $2.65 per share);
• $90.9 million gain from the Classified Ventures’ sale of apartments.com (after-tax impact of $58.2 million, or $8.43 per share);
• $266.7 million gain from the Berkshire exchange transaction (after-tax impact of $266.7 million, or $38.61 per share);
• $127.7 million gain on the sale of the corporate headquarters building (after-tax impact of $81.8 million, or $11.85 per share);
• $75.2 million gain from the sale of wireless licenses at the Cable division (after-tax impact of $48.2 million, or $6.98 per share); and
• $2.6 million in non-operating unrealized foreign currency losses (after-tax impact of $1.7 million, or $0.24 per share).

Items included in the Company’s income from continuing operations for the first nine months of 2013:

• $18.2 million in restructuring charges at the education division (after-tax impact of $13.2 million, or $1.80 per share); and
• $9.4 million in non-operating unrealized foreign currency losses (after-tax impact of $6.0 million, or $0.83 per share).

Revenue for the first nine months of 2014 was $2,609.8 million, up 3% from $2,540.7 million in the first nine months of 2013. Revenues increased at the television broadcasting division and in other businesses, while revenues were down slightly at the cable division and were flat at the education division. The Company reported operating income of $261.7 million for the first nine months of 2014, compared to $221.7 million for the first nine months of 2013. Operating results improved at the television broadcasting and cable divisions, offset by a decline at the education division and in other businesses.

On June 30, 2014, the Company and Berkshire Hathaway Inc. completed a transaction in which Berkshire acquired a wholly-owned subsidiary of the Company that included, among other things, WPLG, a Miami-based television station, 2,107 Class A Berkshire shares and 1,278 Class B Berkshire shares owned by Graham Holdings and $327.7 million in cash, in exchange for 1,620,190 shares of Graham Holdings Class B common stock owned by Berkshire Hathaway (Berkshire exchange transaction). As a result, income from continuing operations for the first nine months of 2014 includes a $266.7 million gain from the exchange of the Berkshire Hathaway shares, and income from discontinued operations for the first nine months of 2014 includes a $375.0 million gain from the WPLG exchange.

Division Results

Education

Education division revenue totaled $543.9 million for the third quarter of 2014, compared with revenue of $543.6 million for the third quarter of 2013. Kaplan reported third quarter 2014 operating income of $12.6 million, compared to $17.5 million in the third quarter of 2013. Restructuring costs totaled $3.3 million and $4.0 million for the third quarter of 2014 and 2013, respectively.

For the first nine months of 2014, education division revenue totaled $1,609.0 million, compared with revenue of $1,613.1 million for the same period of 2013. Kaplan reported operating income of $32.1 million for the first nine months of 2014, compared to $36.6 million for the first nine months of 2013. Restructuring costs and software asset write-offs totaled $13.8 million and $18.2 million for the first nine months of 2014 and 2013, respectively.

In the third quarter of 2014, Kaplan completed the sale of three of its schools in China that were previously included as part of Kaplan International. An additional school in China is expected to be sold by Kaplan in the fourth quarter of 2014. Kaplan's operating results exclude these schools, which have been reclassified to discontinued operations for all periods presented.

A summary of Kaplan’s operating results for the third quarter and first nine months of 2014 compared to 2013 is as follows:

Kaplan Higher Education (KHE) includes Kaplan’s domestic postsecondary education businesses, made up of fixed-facility colleges and online postsecondary and career programs. KHE also includes the domestic professional training and other continuing education businesses.

In 2012, KHE began implementing plans to close or merge 13 ground campuses, consolidate other facilities and reduce its workforce. The last two of these campus closures were completed in the second quarter of 2014. In April 2014, KHE announced plans to close two additional ground campuses, and in July 2014, KHE announced plans to close another three campuses; KHE will teach out the current students and the campus closures will be completed by the end of 2015. In July 2014, KHE also announced plans to further reduce its workforce.

In connection with these and other plans, KHE incurred $2.0 million and $4.5 million in restructuring costs for the third quarter and first nine months of 2014, respectively, and $2.5 million and $14.1 million in restructuring costs in the third quarter and first nine months of 2013, respectively. For the third quarter of 2014, these costs included severance ($1.0 million), accelerated depreciation ($0.9 million) and other items ($0.1 million). For the first nine months of 2014, these costs included severance ($3.0 million), accelerated depreciation ($1.2 million), lease obligation losses ($0.1 million) and other items ($0.2 million). For the third quarter of 2013, these costs included accelerated depreciation ($0.8 million), severance ($1.6 million) and lease obligation losses ($0.1 million). For the first nine months of 2013, these costs included accelerated depreciation ($5.8 million), severance ($3.0 million), lease obligation losses ($4.4 million) and other items ($0.9 million).

In the third quarter and first nine months of 2014, KHE revenue declined 6% and 7%, respectively, due largely to declines in average enrollments at Kaplan University and KHE campuses that reflect weaker market demand over the past year, lower average tuition and the impact of closed campuses. The weaker market demand was most pronounced at KHE's ground campuses in non-degree vocational programs. KHE operating income declined in the third quarter and first nine months of 2014 due largely to revenue declines. Expense reductions associated with lower enrollments and recent restructuring efforts were partially offset by increased marketing spending at Kaplan University.

New student enrollments at KHE declined 11% in the third quarter of 2014 due to lower demand across KHE and the impact of closed campuses. New student enrollments decreased 1% for the first nine months of 2014 due to declines at KHE campuses.

Total students at September 30, 2014, were down 5% compared to September 30, 2013, and increased 1% compared to June 30, 2014. Excluding campuses closed or planned for closure, total students at September 30, 2014, were down 3% compared to September 30, 2013 but up 3% compared to June 30, 2014. A summary of student enrollments is as follows:

Kaplan University and Other Campuses enrollments at September 30, 2014 and 2013, by degree and certificate programs, are as follows:

Kaplan Test Preparation (KTP) includes Kaplan’s standardized test preparation programs. KTP revenue increased 10% and 1% for the third quarter and first nine months of 2014, respectively. Excluding revenues from acquired businesses, KTP revenue increased 6% in the third quarter of 2014 and declined 1% for the first nine months of 2014. Enrollment increased 5% and 3% for the third quarter and first nine months of 2014, respectively, due to growth in health and bar review programs, offset by declines in graduate and pre-college programs. KTP recorded a $7.7 million software asset write-off in the second quarter of 2014, as a decision was made to consolidate certain learning management systems. KTP operating results increased in the third quarter of 2014 due to revenue growth, but declined in the first nine months of 2014 due to the software asset write-off and an increase in program length for MCAT courses that extends revenue recognition periods.

Kaplan International includes English-language programs, and postsecondary education and professional training businesses largely outside the United States. Kaplan International revenue increased 5% and 9% in the third quarter and first nine months of 2014, respectively, due to enrollment growth in the pathways programs, English-language and Singapore higher education programs. Kaplan International operating income improved in the third quarter and first nine months of 2014 due primarily to improved results from operations in Australia and Singapore. In the third quarter and first nine months of 2013, restructuring costs in Australia totaled $1.5 million and $4.1 million, respectively, largely made up of severance costs.

Kaplan corporate represents unallocated expenses of Kaplan, Inc.’s corporate office, other minor businesses and certain shared activities. Corporate expense increased in the first nine months of 2014 due to higher compensation expense and costs associated with new business development activities.

Kaplan continues to evaluate its cost structure and is pursuing additional cost savings opportunities, including eliminating excess office capacity and possible additional school closings. This will likely result in additional restructuring plans and related costs in 2014 and 2015.

Cable

Cable division revenue declined 3% in the third quarter of 2014 to $195.7 million, from $202.4 million for the third quarter of 2013, due to 3% fewer customers and 7% fewer Primary Service Units (PSUs). For the first nine months of 2014, revenue of $600.4 million was down 1% from $607.1 million in the prior year. Operating expenses in the third quarter declined 4%, from $162.7 million to $155.6 million, due to fewer customers and significantly reduced programming costs. Operating expenses declined 3% in the first nine months of 2014 to $472.4 million. Cable division operating income grew 1% in the third quarter of 2014 to $40.1 million, from $39.7 million in the third quarter of 2013; for the first nine months of 2014, operating income increased 6% to $128.0 million, from $121.0 million in the first nine months of 2013.

The cable division continues its focus on higher margin businesses, namely high-speed data and business sales. High-speed data revenue increased 5% in the third quarter of 2014 on a 4% customer gain and business sales increased 19% on a 17% increase in commercial high-speed data customers. Overall, business sales comprised 9.4% of total revenue for the first nine months of 2014, compared with 7.8% of total revenue for the first nine months of 2013. Due to rapidly rising programming costs and shrinking margins, video sales now have less value and emphasis (subscribers down 15% over the third quarter of last year) and programming costs have been reduced significantly. Effective April 1, 2014, the cable division elected not to renew its contract for 15 Viacom networks for a six-year term.

The cable division also continues its focus on higher lifetime value customers who are less attracted by discounting, require less support and churn less. As a result, operating income margins have increased to 20.5% in the third quarter from 19.6% last year.

A summary of PSUs and total customers is as follows:

In July 2014, the cable division sold wireless spectrum licenses for $99 million; a pre-tax gain of $75.2 million was reported in the third quarter of 2014 in connection with these sales. The licenses had been purchased in the 2006 AWS Auction.

Television Broadcasting

Revenue at the television broadcasting division increased 19% to $87.4 million in the third quarter of 2014, from $73.5 million in the same period of 2013; operating income for the third quarter of 2014 was up 37% to $45.0 million, from $32.8 million in the same period of 2013. The increase in revenue and operating income is due to a $9.5 million increase in political advertising revenue and $4.7 million in increased retransmission revenues.

For the first nine months of 2014, revenue increased 17% to $261.4 million, from $222.6 million in the same period of 2013; operating income for the first nine months of 2014 increased 32% to $133.5 million, from $101.2 million in the same period of 2013. The increase in revenue and operating income is due to a $16.4 million increase in political advertising revenue, $9.5 million in incremental winter Olympics-related advertising revenue at the Company’s NBC affiliates and $14.0 million in increased retransmission revenues.

As a result of the Berkshire exchange transaction discussed above, the television broadcasting operating results exclude WPLG, the Company’s Miami-based television station, which has been reclassified to discontinued operations for all periods presented.

Other Businesses

Other businesses includes the operating results of The Slate Group and Foreign Policy Group, which publish online and print magazines and websites; SocialCode, a marketing solutions provider helping companies with marketing on social-media platforms; Celtic Healthcare, a provider of home health and hospice services; Forney, a global supplier of products and systems that control and monitor combustion processes in electric utility and industrial applications, acquired by the Company in August 2013; and Trove, a digital innovation team that builds products and technologies in the news space.

In April 2014, Celtic Healthcare acquired the assets of VNA-TIP Healthcare of Bridgeton, MO. This acquisition has expanded Celtic's home health and hospice service areas from Pennsylvania and Maryland to the Missouri and Illinois regions. The operating results of VNA-TIP are included in Other Businesses from the date of acquisition in the second quarter of 2014.

On May 30, 2014, the Company acquired Joyce/Dayton Corp., a Dayton, OH-based manufacturer of screw jacks and other linear motion systems. The operating results of Joyce/Dayton are included in Other Businesses from the date of acquisition in the second quarter of 2014.

On July 3, 2014, the Company acquired a majority interest in Residential Healthcare Group, Inc. (Residential), the parent company of Residential Home Health and Residential Hospice, leading providers of skilled home health care and hospice services in Michigan and Illinois. The operating results of Residential are included in Other Businesses from the date of acquisition in the third quarter of 2014.

The increase in revenues for the third quarter and first nine months of 2014 is primarily due to newly acquired businesses in 2014 and 2013. The operating results for the third quarter and first nine months of 2014 were adversely impacted by increased long-term compensation expense at SocialCode.

Corporate Office

Corporate office includes the expenses of the Company’s corporate office, the pension credit for the Company’s traditional defined benefit plan and certain continuing obligations related to prior business dispositions. In the first quarter of 2014, the corporate office implemented a Separation Incentive Program that resulted in early retirement program expense of $4.5 million, which is being funded from the assets of the Company’s pension plan. In the third quarter of 2014, the acceptance period for the Voluntary Retirement Incentive Program (VRIP) ended. As a result, the Company recorded $10.3 million in early retirement program expense and other related charges in the third quarter of 2014, a portion of which will be funded from the assets of the Company's pension plan. Excluding early retirement program expense, the total pension credit for the Company’s traditional defined benefit plan was $68.0 million and $28.4 million in the first nine months of 2014 and 2013, respectively.

Excluding the pension credit, early retirement program expense and other related charges, corporate office expenses increased in the first nine months of 2014 due primarily to higher compensation costs, expenses related to certain acquisitions and the Berkshire exchange transaction, and incremental costs associated with the corporate office headquarters move to Arlington, Virginia.

Equity in Earnings (Losses) of Affiliates

At September 30, 2014, the Company held a 16.5% interest in Classified Ventures, LLC (CV) and interests in several other affiliates. On October 1, 2014, the Company and the remaining partners in CV completed the sale of their entire stakes in CV. Total proceeds to the Company, net of transaction costs, were $408.5 million, of which $16.5 million will be held in escrow until October 1, 2015. The Company estimates a pre-tax gain of $393 million in connection with the sale that will be recorded in the fourth quarter of 2014.

The Company’s equity in earnings of affiliates, net, was $4.6 million for the third quarter of 2014, compared to $5.9 million for the third quarter of 2013. For the first nine months of 2014, the Company’s equity in earnings of affiliates, net, totaled $100.2 million, compared to $13.2 million for the same period of 2013.

The 2014 results include a pre-tax gain of $90.9 million from Classified Ventures’ sale of apartments.com in the second quarter of 2014.

Other Non-Operating Income (Expense)

The Company recorded total other non-operating income, net, of $64.5 million for the third quarter of 2014, compared to income of $8.1 million for the third quarter of 2013. The third quarter 2014 non-operating income, net, included a pre-tax gain of $75.2 million in connection with the Cable division's sale of wireless licenses. Third quarter 2014 non-operating income, net, also included $10.6 million in unrealized foreign currency losses and other items. The third quarter 2013 non-operating expense, net, included $7.9 million in unrealized foreign currency gains and other items.

The Company recorded non-operating income, net, of $465.9 million for the first nine months of 2014, compared to other non-operating expense, net, of $8.8 million for the same period of the prior year. The 2014 amounts included the pre-tax gain of $266.7 million in connection with the Company's exchange of Berkshire shares, a pre-tax gain of $127.7 million on the sale of the headquarters building, $75.2 million on the sale of wireless licenses and $2.6 million in unrealized foreign currency losses and other items. The 2013 non-operating income, net, included $9.4 million in unrealized foreign currency losses and other items.

Net Interest Expense

The Company incurred net interest expense of $8.8 million and $24.9 million for the third quarter and first nine months of 2014, respectively, compared to $8.6 million and $25.6 million for the same periods of 2013. At September 30, 2014, the Company had $448.8 million in borrowings outstanding at an average interest rate of 7.0%.

Provision for Income Taxes

The effective tax rate for income from continuing operations for the first nine months of 2014 was 26.7%, compared to 38.6% for the first nine months of 2013. The lower effective tax rate in 2014 largely relates to the Berkshire exchange transaction. The pre-tax gain of $266.7 million related to the disposition of the Berkshire shares was not subject to income tax as the exchange transaction qualifies as a tax-free distribution.

Discontinued Operations

On June 30, 2014, the Company and Berkshire Hathaway Inc. completed the Berkshire exchange transaction discussed above. A gain of $375.0 million was recorded in discontinued operations in connection with the disposition of WPLG, a Miami-based television station. This gain is not subject to income tax. Also as a result of the exchange transaction, income from continuing operations excludes WPLG, which has been reclassified to discontinued operations, net of tax, for all periods presented.

In the third quarter of 2014, Kaplan completed the sale of three of its schools in China that were previously included as part of Kaplan International. An additional school in China is expected to be sold by Kaplan in the fourth quarter of 2014. Income from continuing operations excludes these schools, which have been reclassified to discontinued operations, net of tax, for all periods presented.

Earnings (Loss) Per Share

The calculation of diluted earnings per share for the third quarter and first nine months of 2014 was based on 5,756,682 and 6,823,248 weighted average shares outstanding, respectively, compared to 7,336,752 and 7,315,971 for the third quarter and first nine months of 2013. At September 30, 2014, there were 5,793,160 shares outstanding and the Company had remaining authorization from the Board of Directors to purchase up to 159,219 shares of Class B common stock. The earnings per share computations for the third quarter and first nine months of 2014 were favorably impacted by the 1,620,190 common shares repurchased as part of the Berkshire exchange transaction.

Forward-Looking Statements

This report contains certain forward-looking statements that are based largely on the Company’s current expectations. Forward-looking statements are subject to certain risks and uncertainties that could cause actual results and achievements to differ materially from those expressed in the forward-looking statements. For more information about these forward-looking statements and related risks, please refer to the section titled “Forward-Looking Statements” in Part I of the Company’s Annual Report on Form 10-K.

NON-GAAP FINANCIAL INFORMATION
GRAHAM HOLDINGS COMPANY
(Unaudited)

In addition to the results reported in accordance with accounting principles generally accepted in the United States (GAAP) included in this press release, the Company has provided information regarding income from continuing operations, excluding certain items described below, reconciled to the most directly comparable GAAP measures. Management believes these non-GAAP measures, when read in conjunction with the Company‘s GAAP financials, provide useful information to investors by offering:

• the ability to make meaningful period-to-period comparisons of the Company’s ongoing results;
• the ability to identify trends in the Company’s underlying business; and
• a better understanding of how management plans and measures the Company’s underlying business.

Income from continuing operations, excluding certain items, should not be considered substitutes or alternatives to computations calculated in accordance with and required by GAAP. These non-GAAP financial measures should be read only in conjunction with financial information presented on a GAAP basis.

The per share impact of these items for the first nine months of 2014 is different than the per share impact of these items for the distinct quarterly periods of 2014, as a result of the Berkshire exchange transaction.

The following table reconciles the non-GAAP financial measures to the most directly comparable GAAP measures: