UNITED STATES SECURITIES AND EXCHANGE COMMISSION FORM 10-K ANNUAL REPORT PURSUANT TO SECTION
13 OR 15(d) OF 512 7th AVENUE, 22nd FLOOR (Address, including zip code, and telephone number, including area code, of each Registrant’s principal executive offices) Securities Registered Pursuant to Section 12 (b) of the Act: Securities Registered Pursuant to Section 12 (g) of the Act: Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10 K or any amendment to this
Form 10-K. PART I We are a leading publisher of supplemental education materials for the Pre K-12 market. Our portfolio of products includes a broad range of print and electronic supplemental instructional materials, testing and assessment products and library materials. We believe our
products have a distinctive brand identity and are recognized by our customers for their effectiveness and consistent, high quality educational content. On May 14, 1999, Ripplewood Holdings L.L.C., which specializes in private equity investments, formed WRC Media Inc. (WRC Media or the Company) as a holding company to pursue acquisitions in the media industry. WRC Media now serves as a holding company
for CompassLearning, Inc. (CompassLearning), Weekly Reader Corporation and ChildU, Inc. (ChildU). Weekly Reader Corporation in turn owns the business of Weekly Reader, and the subsidiaries American Guidance Service, Inc. (AGS or American Guidance), World
Almanac Education Group, Inc. (World Almanac) and their respective subsidiaries. WRC Media acquired CompassLearning on July 14, 1999. Prior to this acquisition, WRC Media had no material operations other than seeking acquisitions. On November 17, 1999, WRC Media completed the recapitalization of the Supplemental Education Group of
PRIMEDIA Inc., consisting of the businesses of Weekly Reader, American Guidance and World Almanac and their respective subsidiaries. As a result of this transaction, Weekly Reader became a subsidiary of WRC Media. The Company today has four operating segments: Weekly Reader, American Guidance Service, Compass/ChildU and World Almanac. Weekly Reader. Weekly Reader has been a leading publisher of classroom periodicals for Pre-K-12 students for over 100 years. Weekly Reader publishes 16 classroom periodicals which had a 2003-2004 school year circulation of 6.4 million subscribers. In addition to
its well-recognized classroom periodicals, such as Weekly Reader®, Teen Newsweek and Current Events®. Weekly Reader also publishes, grade-specific workbooks and other supplementary educational materials. The operating segment Weekly Reader includes Lifetime
Learning Systems, Inc. (Lifetime) which operates as our Consumer and Custom Publishing group (CCP). Lifetime custom publishes instructional materials paid for by various sponsors, such as General Motors, Six Flags, Kimberly-Clark, Center for Disease Control and the
Home Safety Council, which are distributed primarily to K-12 students throughout the United States. For the year ended December 31, 2004, Weekly Reader, excluding American Guidance and World Almanac, had net revenue of $45.7 million, representing approximately 22%
of WRC Media’s total net revenue during this period. American Guidance Service. AGS has been a leading publisher of individually administered and group testing and assessment products, and supplemental instructional materials for over 47 years. AGS’s testing and assessment products are primarily for K-12 students
and its supplemental instructional materials are primarily for low-performing students in middle and secondary schools. One or more of AGS’s testing and assessment products or supplemental instructional materials have been used in over 12,000 of the 15,000 school districts
in the United States. Our testing and assessment products are used to diagnose learning disabilities and measure the cognitive ability, educational achievement, or personal and social adjustment of individual students. AGS’s supplemental instructional materials include various
textbooks and worktexts, many of which we believe set the standard for quality in their respective product categories, with full-color content and accompanying extensive teacher support materials. In May 2001, AGS acquired the operating assets of Lindy. Lindy develops
curriculum-based skills assessment and test preparation products on CD-ROM that correlate to national and state curricula. For the year ended December 31, 2004, AGS had net revenue of $70.8 million, representing approximately 34% of WRC Media’s total net revenue
during this period. CompassLearning/ChildU. CompassLearning/ChildU (Compass/ChildU) has been a research-based, technology learning solutions company for over 35 years. Compass/ChildU produces comprehensive educational assessment, curriculum, reporting and management tools
for grades Pre-K-12, all of which are aligned to local, state and national standards. Compass/ChildU offers over 4,000 hours of standards based instruction in reading, writing, language arts, mathematics, science, social studies, and project based learning. 2 This interactive, standards-based managed assessment and curriculum helps educators individualize learning on a per student basis. Compass/ChildU has been serving the Pre-K-12 market for
over 30 years and its products have been a significant part of the learning and teaching process. Research on Compass/ChildU products demonstrates the efficacy of our products in various
environments and under a diverse set of circumstances. Over the past 15 years, more than 16,000 schools, in over 3,000 districts, representing approximately 14% of the 114,000 schools in the
United States, purchased products from Compass/ChildU. In 2002, Compass/ChildU began co-development of the new on-line product, CompassLearning Odyssey®, which had its first release in
May 2002. The CompassLearning Odyssey online curriculum solutions, developed by educators and built on sound instructional pedagogy, utilize engaging, self-paced, project-based activities. In
addition, Compass/ChildU provides consulting/teacher training services to educators on curriculum development and technology integration in the classroom utilizing our Classic a LAN/WAN
product and CompassLearning Odyssey products. For the year ended December 31, 2004, Compass/ChildU had net revenue of $47.6 million, representing approximately 23% of WRC Media’s
total net revenue during this period. Revenues were divided between software licensing (51%), professional development and technical support services (46%), and hardware systems sales (3%). World Almanac. World Almanac has been a leading publisher of reference and informational materials for over 135 years. These materials are targeted to K-12 students, as well as public and academic libraries and government agencies. Over 53% of the approximately
130,000 school and public libraries in the United States have purchased products from World Almanac. World Almanac publishes well-known print reference materials, such as The World Almanac and Book Of Facts®, The World Almanac For Kids® and nonfiction and fiction
books for K-12 students under three imprints of its Gareth Stevens, Inc. (Gareth Stevens). In addition, World Almanac publishes electronic reference materials, such as the Funk & Wagnalls® Encyclopedia database and an Internet-based version of Facts On File World News
Digest®, which in its print version is World Almanac’s leading subscription-based product. World Almanac also distributes proprietary and third-party products that are targeted for K-12 students through its Gareth Stevens and World Almanac Education Library Services
(“WAELS”) catalogs and telesales operations. For the year ended December 31, 2004 World Almanac had net revenue of $45.4 million, representing approximately 21% of WRC Media’s total net revenue during this period. We believe a number of the competitive strengths that have contributed to our leading market positions include: Strong, Well-Established Brand Names. We believe that we have strong brand names in each of the market segments we serve. Several of our most recognized print titles have been in circulation for decades, including WEEKLY READER, which was first published in
1929 and CURRENT EVENTS, a Weekly Reader publication, which was first published in 1902; the PEABODY PICTURE VOCABULARY TEST (PPVT), marketed by AGS, which was first published in 1959 and THE WORLD ALMANAC AND BOOK OF FACTS®,
which was first published in 1868. We believe that our products are well known and trusted by teachers, other educational professionals, and parents for their effectiveness and consistent, high quality educational content. Brand name and reputation are significant criteria in the
purchasing decision process for supplemental education materials and consumer products as they are usually selected at the discretion of individual teachers, school and school district-level administrators or parents. Broad Product Portfolio. We are a leading publisher in the supplemental education materials market and one of the few companies with a comprehensive portfolio of products covering all the major segments of this market. We offer a wide range of products to our
customers. This broad product portfolio allows us to address the most attractive segments of the market and respond to emerging trends and funding sources, including the rapidly developing market of parents seeking to buy supplemental education materials and English
Language Learners (ELL). In addition, the operating groups have access to the content of other groups that they can incorporate into their own products, thus producing a consistent look and feel while lowering editorial costs. The specific products offered by each business
segment are as follows: 3 4 5
Washington, D.C. 20549
THE SECURITIES EXCHANGE ACT OF 1934
For the year ended December 31, 2004
Commission File No. 333-96119
WRC MEDIA INC.
(Exact name of Registrant as specified in its charter)
DELAWARE
(State or other jurisdiction of incorporation or organization)
2731
(Primary Standard Industrial Classification Number)
13-4066536
(I.R.S. Employer Identification Number)
(Exact name of Registrant as specified in its charter)
DELAWARE
(State or other jurisdiction of incorporation or organization)
2721
(Primary Standard Industrial Classification Number)
13-3603780
(I.R.S. Employer Identification Number)
COMPASSLEARNING, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE
(State or other jurisdiction of incorporation or organization)
7372
(Primary Standard Industrial Classification Number)
13-4066535
(I.R.S. Employer Identification Number)
NEW YORK, NY 10018
(212) 768-1150
None
None
NAME OF EACH EXCHANGE ON
WHICH REGISTERED
NONE
NONE
No 
COMPASSLEARNING /
WEEKLY READER
AMERICAN GUIDANCE
CHILDU
WORLD ALMANAC
INSTRUCTIONAL
MATERIALS
PERIODICALS: 16 grade or subject-
specific periodicals for Pre-K-12
students and 2 subscription supplements.
SUPPLEMENTARY MATERIALS
AND WORKBOOKS: A variety of
grade specific materials for K-9
students that build and reinforce basic
skills like Map Skills current health
issues, reading enhancement and
grammar skills.
SPONSORED INSTRUCTIONAL
MATERIALS: A variety of free
instructional materials, including print
and video products, paid for by
corporate, trade association and/or not-for-profit sponsors primarily for K-12
students.
BASIC SKILLS: Supplemental textbooks and
worktexts targeted for low-performing students
in middle and secondary schools covering core
curriculum subjects.
TEST PREPARATION: Instructional materials
to prepare for three of the leading achievement
tests for K-12 students.
PERSONAL GROWTH: Various personal
growth materials covering topics such as drug
use prevention and anti-violence training, self-esteem and career education
ELECTRONIC COURSEWARE: Over four
thousand hours of electronic courseware for
Pre-K-12 students, primarily for reading, math
and language arts.
MANAGEMENT SYSTEM: Odyssey
management system enables teachers to track
student performance, record grades, report on
progress and prescribe lessons based on
results.
TEACHING KITS: Kits developed by
World Almanac Education Library
Services used to teach a variety of skills
including research skills, map skills and
language skills.
SUPPLEMENTAL BOOKS:
Supplemental classroom books, with
teacher’s guides, published by Gareth
Stevens, Inc., focus on primary grade
reading, math, and science curriculum and
on upper elementary and secondary social
studies and science curriculum. Some
titles include Spanish or bilingual
editions for ELL students.
ASSESSMENT PRODUCTS
Assessments in periodicals, as well as
Supplementary Materials.
INDIVIDUALLY ADMINISTERED TESTS:
Assessment products for K-12 students and
adults, includes Ability Assessment, Behavior
& Social Skills Assessment, Language, Speech
& Auditory Skills Assessment.
GROUP ACADEMIC TESTS: Classroom
testing, which offers reliable reading and math
diagnostics for individual students and
aggregate data for tracking yearly progress at
the school and district levels.
ASSESSMENT TEST: CompassLearning
Explorer assessment tool evaluates student
performance, meets the National Assessment
of Educational Progress (NAEP) objectives
and is aligned with the core state standards.
N/A
COMPASSLEARNING /
WEEKLY READER
AMERICAN GUIDANCE
CHILDU
WORLD ALMANAC
N/A
N/A
N/A
K-12 REFERENCE AND OTHER
INFORMATIONAL MATERIALS:
Materials developed by us targeted to K-
12 students such as THE WORLD
ALMANAC FOR KIDS AND GARETH
STEVENS, INC. products, as well as
materials developed by third-parties and
distributed by us. About 7% of GARETH
STEVENS titles are also published in
Spanish or bilingual editions.
GENERAL REFERENCE AND OTHER
INFORMATION MATERIALS:
Materials developed by us, such as THE
WORLD ALMANAC AND BOOK OF
FACTS, FUNK & WAGNALLS
ENCYCLOPEDIA database and FACTS
ON FILE WORLD NEWS DIGEST.
<
Improving Students Achievement. According to the Association for Supervision and Curriculum Development (ASCD), educators need timely access to information about students’ performance from many sources in order to direct the instructional paths of all learners. Assessment and instruction play key roles and must be fair, balanced, and grounded in the art and science of learning and teaching, reflective of curricular and development goals. From the results of on-going assessments, educators must provide remediation, and reinforcement to ensure the success of all learners. The WRC Media family of companies is uniquely positioned to provide the necessary ingredients to deliver measurable results across geographic and cultural horizons for learners of all ages. We believe our products and services represent one of the most extensive portfolios of assessments, supplemental materials, electronic courseware, and professional development offerings that can meet the needs of our diverse school populations and their families.
Stable Revenue Base. We have a significant base of long-term customers who have exhibited substantial product loyalty, resulting in a consistent level of revenues from recurring sales to these customers. In our experience, once a teacher or administrator is familiar with and accustomed to using a supplemental instructional product and has developed lesson plans using the product, the teacher or administrator tends to purchase the same product annually leading to a high subscription renewal rate. In addition, we believe there is an important component of trust in the quality, consistency and support of many of our products which makes it difficult for a competitor to introduce new products for the same subject area without significant investment and the support of key opinion makers in the industry. As a result of this loyalty, many of our products enjoy long customer histories with high renewal rates. About 74% of schools purchasing Weekly Reader periodicals re-subscribe the following year and Facts On File World News Digest has had renewal rates averaging approximately 86% from 1997 through 2003. We believe our school renewal rates are important because of the value we place on ensuring that our periodicals remain available within any given school, providing us with a base on which to further penetrate that school. In addition, seven of our top ten revenue producing testing and assessment products have been published for over 20 years. Typically, these products have undergone revisions to ensure that they reliably meet the existing population’s curriculum needs. Achievement tests generally require revisions every 8 to 10 years while tests that measure personal and social adjustment or cognitive ability in some cases do not require revision for as long as 15 years.
Substantial Electronic Delivery Platform. We believe that we are well positioned to capitalize on this market segment. Most CompassLearning products can be delivered in the school’s platform of choice: LAN, WAN or via the Internet. The CompassLearning Odyssey platform is built from ground-up on a state-of-the-art web based technology architecture that provides schools the flexibility to implement the solution based on a variety of infrastructure settings. The architecture also provides WRC Media with the ability to channel content from sister companies to customers through the Internet. In addition, Facts On File News Services of World Almanac derives more than 60% of its revenues from on-line subscriptions and electronic licensing.
Our primary operating subsidiaries have web sites that promote their respective products, provide product information and customer support, and in some cases, enable users to order products over the Internet. Given the importance of quality and name recognition to the development of Internet-based businesses, we believe that the strength of our brands and our direct distribution channels position us well for significant growth in this area.
Strong Distribution Channels. Our products are used in over 90% of all public school districts, by over 18 million students, and in over 75% of all public schools and libraries. We have an extensive network with direct distribution channels into these end user markets. Some of our products are sold using direct field and telephone sales, emphasizing one-to-one relationships with teachers, school, school or district-level administrators and other educational professionals. CompassLearning, for example, uses a three-pronged approach that provides every customer a sales contact, an educational consultant and a technology support person, for comprehensive customer service. We also utilize sophisticated direct mail campaigns, which at Weekly Reader and World Almanac are enhanced by our proprietary databases. These databases track the purchasing habits of teachers, schools and/or librarians for many of our products, as well as specific demographics and other factors we believe influence purchasing habits.
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Weekly Reader |
Weekly Reader has five primary product lines: elementary school periodicals; middle and secondary school periodicals; supplementary products and workbooks; consumer and custom publishing, and licensing.
Elementary School Periodicals. Weekly Reader®, first published in 1929, has established itself as a leading source for fiction and non-fiction reading for students in grade Pre-K to grade 6. Weekly Reader® features seven grade-specific editions for students, with between 25 and 32 issues per school year for each edition. Weekly Reader also offers one optional monthly supplement, ScienceSpin® for elementary grades.
Subscriptions to Weekly Reader elementary school periodicals in the 2003-2004 school year represented approximately 34% of all elementary school periodical subscriptions circulated in that year by the three major publishers of these periodicals. According to publishers’ Statements of Ownership filed with the USPS in the fall of 2004 for average circulation for the 2003-2004 school year, Weekly Reader’s circulation for elementary school periodicals in the 2003-2004 school year totaled approximately 4.9 million subscriptions.
Each edition of Weekly Reader is specifically written and designed for a particular grade level in order to deliver engaging fiction and non-fiction reading to elementary school students at a conceptually appropriate level. The editions for younger audiences contain “soft” news focusing on topics such as fire prevention and animals. Higher-grade level editions contain “hard” news concerning topics such as world news and current events, including, for example, the 2004 presidential primary elections, corporate corruption and the Middle East conflict. A teacher’s guide with background information, discussion topics and follow-up questions is included with each issue of each edition.
Middle and Secondary School Periodicals. We publish nine subject-specific periodicals covering six subject areas for students in middle and secondary schools, and a Sex Supplement Education Supplemental publication. These include Current Events®, Teen Newsweek, Current Science, Writing, Read, Current Health 1 and 2, Career World and Know Your World Extra with between 6 and 26 issues published per school year per periodical. For example, Current Events® first published in 1902, remains one of our most popular periodicals for middle school students, and continues to provide information on current events tailored to the reading levels and school curriculum of students in the sixth through tenth grades.
Weekly Reader’s middle and secondary school periodical subscriptions in the 2003-2004 school year represented approximately 42% of all middle and secondary school periodical subscriptions circulated that year by the two major publishers. Weekly Reader’s middle and secondary school periodicals had the second highest total circulation of periodicals for these schools in the 2003-2004 school year with approximately 1.5 million subscriptions. In 2003 and 2004, approximately 79% of middle and secondary schools renewed a subscription from the previous year. To target the growing sixth to eighth grade market, Weekly Reader entered into a relationship with Newsweek magazine to create Teen Newsweek, which was launched in September 1999. Teen Newsweek focuses on social studies and current events and contains grade-appropriate news stories that link history, geography, government and cultures to the news stories. The relationship is intended to capitalize on Weekly Reader’s expertise in publishing and marketing materials for classroom use and Newsweek’s strong news image.
Supplemental Products and Workbooks. We offer skills books, a line of workbooks and other supplemental education materials that build and reinforce students’ basic skills in curriculum areas such as language arts as well as other titles which focus on life issues, such as current events or health. The skills book product line includes over 12 different series of workbooks targeting, grade-specific titles spanning K-9 grades. For example, the highly successful Map Skills for Today series builds geographic literacy by teaching students basic map- reading concepts and skills. The success of this series is attributable to a sequential approach to teaching map skills that matches the curriculum established by many school systems. Additional products include series covering topics such as AIDS and anti-drug educational materials.
Consumer and Custom Publishing. The Consumer and Custom Publishing division (“CCP”), has emerged as a leader in the creation and distribution of a variety of supplemental education materials. These products are commissioned by corporate, trade association and/ or not-for-profit sponsors and are distributed free to the target audience. The materials produced focus on topics chosen by the sponsor and are typically targeted for use in K-12 classrooms. CCP also produces sponsored supplemental education materials targeted
7
for the college and senior citizen markets. Many of the programs contain multiple media components including: posters, teacher’s guides and reproducible student activities and additional audio, CD, video and web based material. Custom published programs have been produced for corporate sponsors such as General Motors, Kimberly Clark, as well as not-for-profit sponsors such as the Center for Disease Control, Florida Department of Citrus and The Home Safety Council.
Licensing. Weekly Reader licenses editorial assets, promotes other products inserted in its publications and provides its “seal of approval” to various editorial and consumer products. Weekly Reader’s licensed content is generally recognized as revenue over the term of the license agreement. Weekly Reader continues to sell “Weekly Reader Editor’s Choice” book selections licensed from trade publishers on the QVC Shopping Network generating the largest one-day sales totals in Weekly Reader’s history. In 2004, approximately 1.6 million Weekly Reader Editor’s Choice books were sold on QVC.
WeeklyReader.com. In addition to our presence in the classroom through printed materials, Weekly Reader’s website, provides students, teachers and parents with materials, in the form of articles, puzzles, experiments and games, which correlate with the content of Weekly Reader periodicals. In addition, the web site informs users about our periodicals and skills books allowing customers to subscribe over the Internet.
American Guidance Services |
AGS has two principal product lines: testing and assessment products; and core curriculum and supplemental instructional materials.
Testing and Assessment Products. AGS’s testing and assessment products provide educators with reliable, individually-administered and group tests, and manuals explaining how to administer our tests. Our testing and assessment products and supplemental instructional materials are primarily used in K-12 schools, but are also used in community health centers, clinics, hospitals, correctional facilities, community colleges and other adult education programs. These products are used to diagnose learning disabilities and measure the cognitive ability, educational achievement and personal and social adjustment of students.
AGS currently publishes over 30 testing and assessment products. AGS’s testing and assessment products are generally sold as part of a test kit. Test kits typically contain the test record forms, “easels” used to administer the test items, and a manual describing the proper method to score and evaluate the particular test. Three of AGS’s top five testing products, based on sales, have been published for over 20 years. AGS’s tests are revised periodically to ensure that they reliably measure existing populations. Achievement tests generally require revisions every eight to ten years while tests that measure personal and social adjustment or cognitive ability in some cases do not require revision for as long as 15 years.
Educators and clinicians apply AGS’s testing and assessment products on an individual basis to understand a student’s particular educational needs. In our experience, once the validity and effectiveness of a test is established and accepted in the educational community, educators’, psychologists’ and clinicians’ familiarity with the product grows along with their reluctance to change suppliers and learn different assessment content, administration approaches and scoring techniques. Additionally, these professionals often prefer to continue using the same tests over a long period of time in order to compare performance of their student populations. The goal of AGS is to increase its brand awareness in the markets it serves, primarily specialists in the K-12 market. Our goal is to establish the AGS name in association with our products and services. By increasing our visibility as a company on a national and local level with special educators, we will be able to help the customer connect our products with our company name. To grow in our critical markets, AGS plans to aggressively pursue five main areas for growing our product line:
| • | Revisions — Many of our top-selling tests and curriculum have recently been revised or are on schedule to be revised over the next 5 years. |
| • | New Products — AGS annually introduces new product through internal development. |
| • | Acquisitions — AGS historically has pursued acquisitions to enhance and supplement its internal development efforts. |
8
| • | Distribution — AGS has increased its emphasis on distributing complementary products to its target markets. Currently we distribute 258 titles from Gareth-Stevens, World Almanac and Weekly Reader, and we have added key reading assessments that will position us
well to capture Reading First, a federally funded reading initiative program. |
| • | New Markets — AGS will seek new segments with the education industry in which to participate where it can leverage core capabilities in new ways that supports entry into growing education markets. |
Core Curriculum and Supplemental Instructional Materials. AGS’s supplemental instructional materials consist of curriculum-based instructional materials, many of which are for low-performing students. Low-performing students are defined as those students scoring in the lower 50th percentile of the student population at a particular grade level. We focus primarily on serving middle and secondary schools with additional sales to post-secondary markets, such as community colleges and correctional facilities. We generally produce three types of instructional materials: supplemental hardcover textbooks in core curriculum areas for low-performing students, with related products such as workbooks; soft cover worktexts in core curriculum areas for low-performing students; and test preparation materials which can be used to prepare all students for leading achievement tests.
AGS’s supplemental hardcover textbooks are designed to provide comprehensive coverage of skills and concepts in short, concise lessons. They are geared to a fourth grade reading level or below with photography and content that are appropriate for middle and secondary school students, as well as adults.
We believe AGS’s supplemental hardcover textbooks set the standard for quality in the market, with full-color content and accompanying extensive teacher support materials. Each textbook has a wrap-around teacher’s edition that reproduces the student edition with notes for the teacher indicated next to the text such as overviews for each new lesson, alternative questions a teacher may ask and answers to questions in the text. Each textbook has available a set of quizzes, worksheets, problem sets and other materials that teachers are permitted to reproduce for their classes. These materials also are available on CD-ROM. Most of AGS’s supplemental hardcover textbooks have related soft cover workbooks, activity books and study guide programs including videos available in print and on CD-ROM for self-guided learning.
AGS’s soft cover worktexts also cover core curriculum areas. These worktexts are designed as stand-alone products so that a teacher may use them to supplement any textbook. These soft cover worktexts cover smaller portions of any given curriculum area other than our supplemental hardcover textbooks.
Approximately 11% of AGS’s net revenue for the year ended December 31, 2004 was from sales of testing and assessment products, curriculum and supplemental instructional materials in which the end users were not K-12 schools.
AGS also publishes a line of test-preparation materials developed to assist students preparing to take three of the leading achievement tests: Stanford Achievement Test (SAT), Iowa Test of Basic Skills (ITBS), and TERRANOVA (Comprehensive Test of Basic Skills (CTBS) and Multiple Assessments tests).
Additional preparation materials for state specific tests are also published. AGS’s test preparation materials are sold in package format.
Compass/ChildU |
Compass/ChildU is a research-based, technology learning solutions company that produces educational assessment, curriculum, reporting and management tools for grades Pre-K-12, all of which are aligned to local, state, and national standards. The Compass/ChildU solutions are easily integrated into classroom activities that support curricular goals. Compass/ChildU derives most of its revenue from the sale of solution products and related professional development and technical support services.
The Compass/ChildU solutions are focused on the following five areas: comprehensive assessment that diagnoses individual students based on state/national standards; comprehensive curriculum in reading, English Language Learners (ELL), writing, mathematics, science and social studies that is prescribed to each student based on our assessment system diagnosis or based on teachers’ assessment; learning management system that
9
allows teachers to track student performance and intervene as necessary and administrators to track teacher/student progress; parental access to the system allows them to view student performance and progress at school and be more involved; and professional development for teachers to integrate this type of a system into their classroom.
Compass/ChildU’s CompassLearning Odyssey® product line is a comprehensive library of over four thousand hours of interactive, standards-based, managed curriculum. The CompassLearning Odyssey® curriculum focuses on reading, ELL, writing, mathematics, science, social studies and data management tools designed for grades Pre-K-12. Studies have demonstrated that the use of software containing stimulating graphics, interactive animation, and audio technology for all types of learning instruction help motivate students to learn. Assessment products assign lessons based on each student’s needs. Each module covers a full range of development, from basic skill instruction, to critical thinking exercises, to project-based learning. Management tools are designed to reduce the time teachers spend on administrative tasks and increase one-on-one work with students. The CompassLearning Odyssey product line is delivered in the school’s platform of choice including LAN, WAN and Internet access.
The CompassLearning Explorer® assessment tool is designed to evaluate student performance. It covers the National Assessment of Educational Progress (NAEP) objectives and is aligned with core state standards. CompassLearning Explorer offers criterion-referenced emulated tests and individualized learning paths with the flexibility to integrate third-party products, while allowing for customization to meet individual students and teachers’ needs. The data on individual student performance is provided to teachers in near real-time manner to help them make informed decisions and customize learning for every learner. The solution can be delivered via the Internet with computer-based and print components. Curriculum options vary, letting students navigate through the program at their own pace or on a timed basis. The solution also provides parent login to allow parents to track the progress of their child/children. The parents also have the ability to review the curriculum with their child at home to provide enforcement.
Compass/ChildU provides professional development services and technical support services. Compass/ChildU has a team of educational consultants providing professional development services to teachers, ranging from basic software training to services designed to assist teachers in implementing and integrating technology into the classroom. Compass/ChildU offers various technical support services in connection with the purchase and ongoing use of its software products. An initial buyer of our software products typically purchases one year of telephone help-line services, on-site system engineer services and software maintenance.
A typical Compass/ChildU sale consists of software products packaged with professional development and technical support services. The management, assessment and curriculum software price is based on number of users, subject and grade level purchased. Professional development services are typically purchased under a contract for a specific number of consulting days. Technical support services are typically purchased under one-year contracts with the price based on the size of the implementation, as well as the level of service requested. After the expiration of any service contract, services can be purchased on an ongoing basis.
World Almanac |
World Almanac’s operations are divided into the following five divisions: World Almanac Books, World Almanac Education Library Services, Gareth Stevens, Inc., Facts On File News Services and Funk & Wagnalls.
World Almanac Books. The World Almanac and Book Of Facts® is, we believe, one of the most widely used and well-respected general reference publications in the United States. In 1999, the Library Journal ranked us as the number two best reference source of the millennium (after Merriam-Webster’s Third International Dictionary). We believe The World Almanac and Book Of Facts provides more complete and up-to-date information than competing almanacs. Its comprehensiveness and brand identity are critical assets. In print for over 135 years, The World Almanac and Book Of Facts perennially makes the New York Times’ bestseller list. We estimate that more than 80 million copies of the World Almanac and Book Of Facts have been sold since 1868. World Almanac Books also licenses the content of The World Almanac and Book Of
10
Facts to third parties for inclusion in their products. Since 1995, World Almanac Books has also published The World Almanac For Kids, with over 2,400,000 copies sold to date.
World Almanac Education Library Services. World Almanac Education Library Services is a niche distributor of reference, nonfiction and fiction books, which it targets primarily to K-12 school and public libraries. There are approximately 120,000 K-12 school libraries and 16,000 public libraries in the United States. World Almanac Education Library Services reviews and selects materials from third-party publishers for inclusion in its nine catalogs. The catalogs also feature The World Almanac and Book Of Facts, The World Almanac For Kids and numerous best selling series from Gareth Stevens and World Almanac Education Library Services mailed approximately 2.1 million catalogs in 2004. World Almanac Education Library Services also publishes a small number of proprietary teaching kits, including kits covering research skills, map skills and Language Arts skills, which include items such as lesson plans for books we believe are appropriate for instructional use and encourage multiple-copy sales. A growing telesales unit is responsible for generating an increasing portion of WAELS’ revenue and has made it possible for WAELS to extend its reach into the customer base. A new field sales force will launch this year, making WAELS a true multi-sales channel operation.
Gareth Stevens (Gareth Stevens) publishes nonfiction and fiction books for K-12 students. These books cover a broad spectrum of topics including nature, science, social studies, reference, and language arts, all closely related to curriculum standards. Approximately 86% of Gareth Stevens sales derive from books published under the three Gareth Stevens imprints: Gareth Stevens Publishing (K-6), World Almanac Library (4-12), and Weekly Reader Early Learning Library (Pre-K-3). In the Gareth Stevens Publishing imprint, a majority of these titles are sourced from domestic and international third parties for which Gareth Stevens usually holds, at a minimum, exclusive publishing rights for K-12 educational market in North America. Royalty advances are generally paid on titles sourced in this manner and then earned out over the life of the title. In the World Almanac Library and Weekly Reader Early Learning Library imprints, the majority of titles are created by Gareth Stevens, and for these titles, Gareth Stevens owns or controls worldwide publishing rights. The remaining approximately 14% of Gareth Stevens sales result from the telesales distribution of books from other publishers including Capstone, Gale/Blackbirch, Heinemann Library, Picture Window, Crabtree, and Compass Point, sold on consignment through the LibraryOne Direct division, as well as through other inside sales divisions.
Facts On File News Services. World Almanac, through Facts On File News Services, publishes and sells subscription news reference products in print and Internet formats. There are five print products: Facts On File World News Digest; Issues And Controversies On File; Today’s Science On File; Editorials On File; and Software and CD-ROM Reviews On File.
Its core product, Facts On File World News Digest, is a highly respected publication used by libraries as a comprehensive archive of world events coverage dating back to 1940 in both the print and electronic version. Librarians, journalists and library patrons typically use Facts On File News Services products to research historical events. The in-house editorial staff of Facts On File World News Digest distills key news information from more than 100 different newspapers, periodicals, journals and government Internet sources and uses it to update the product weekly in the print and Internet formats. The print edition of Facts On File World News Digest sold approximately 2,000 subscriptions in 2004 and continues to meet with great acceptance, as evidenced by renewal rates averaging over 85% from 1997 through 2004. Subscriptions to the print edition have gradually declined as it is replaced by Internet-based versions of the product described below.
To take advantage of accelerated library spending on electronic delivery of reference materials, World Almanac launched FACTS.com in 1999, an on-line version of Facts On File World News Digest. The increased functionality of the Internet version allows World Almanac to price this product higher than the print version. The Internet version has a list price of $1,695 for a single-site installation, with price discounts per site for multiple-site installation. In 2000, we launched three additional World Almanac databases as part of the Reference Suite @ Facts.com web service: Issues and Controversies On File, Today’s Science On File and the World Almanac Reference Database. In 2003, we launched Facts For Learning, an elementary school reference and research product. FACTS.com subscriptions are sold primarily through telemarketing.
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Funk & Wagnalls. World Almanac operates in the electronic encyclopedia business through Funk & Wagnalls. Although the Funk & Wagnalls Encyclopedia is no longer published in print format, Funk & Wagnalls licenses an electronic version of its encyclopedic database to various third parties and is delivered via FACTS.com. Funk & Wagnalls also annually sells a general yearbook containing a review of the major news events that transpired in the previous year and a science yearbook containing a review of the major scientific events in the previous year. The yearbooks (general and science) are licensed from World Book Encyclopedia, Inc. The active subscriber list for these two publications, which primarily consists of former subscribers to the print edition of the Funk & Wagnalls Encyclopedia, is approximately 25,000 for the general yearbook and 9,000 for the science yearbook. Most science yearbook subscribers are also general yearbook subscribers. We do not target new subscribers for these yearbooks; however, renewal rates have averaged approximately 82% for the general yearbook and 78% for the science yearbook from 1997 through 2003.
Product and Content Development |
Weekly Reader. Weekly Reader has a team working in product and content development. This team includes editors and writers, who are typically grade and subject specialists with journalism or teaching experience; and designers, who are responsible for the “look and feel” of the products, including the layout of each publication.
Editors, writers and designers work in teams on each project including planning meetings used for determining content and educational focus, the selection of appropriate graphics and photographs and final editing before submission for printing. The time it takes to develop our products varies substantially according to the type of product. Product development for a new periodical typically takes approximately nine months from concept to initial marketing, whereas new issues of our existing periodicals typically take approximately one to two weeks from conception to printing. Our supplementary products typically take approximately six to eight months from concept to initial marketing for an entirely new title, and approximately two to three months for updated versions of existing titles. Development times for custom published programs vary substantially depending upon the scope of work considered; however, the average contract takes approximately three to four months from concept to distribution.
Weekly Reader’s periodicals are written by a combination of staff and freelance writers. Rights to materials are generally acquired as work made for hire, or by copyright assignment, or by license. Our staff of editors, writers and designers determines the subject matter for the particular edition after which the content is primarily written and edited by Weekly Reader’s employees. For ScienceSpin, however, once the content and educational focus for a particular issue is determined internally, the writing is contracted out to third parties with the relevant scientific knowledge and the ability to write for the applicable target audience. Teen Newsweek is written internally based upon content from upcoming stories in Newsweek made available to our writers prior to Newsweek’s publication, and our own internally created content. The Teen Newsweek writers determine which stories are appropriate for the targeted audience and then rewrite the stories with age appropriate information and language. Teen Newsweek’s content is subject, in all cases, to Newsweek’s approval.
Weekly Reader’s supplementary products are typically written by freelance writers at the direction of Weekly Reader’s editors. Rights to materials are generally acquired as work made for hire, or by copyright assignment, or by license. Consumer and Custom Publishing programs are developed in a variety of multiple media by an in-house editorial and design staff with varying degrees of direction provided by the applicable sponsor. In the past, a number of corporate sponsors have commissioned Consumer and Custom Publishing to create and deliver a specific concept for which they are seeking implementation and production, while other sponsors simply have a message they wish to communicate to a target audience and request proposals as how best to accomplish that goal.
Prior to distribution, whether created internally or externally, all of Weekly Reader and Consumer and Custom Publishing programs are reviewed by a senior editor for their age and content appropriateness.
American Guidance Services. AGS’s new and revised testing and assessment products are primarily developed internally. Rights to materials are generally acquired as work made for hire, or by copyright assignment, or by license. Most developers utilized by AGS are trained in one or more specialties including
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psychology, education, early childhood development and speech/language, among other disciplines. In some cases, the in-house personnel revise existing products under the direction of prominent independent authors who control the original copyright or content of the test and who receive royalties from the sale of these tests.
Our testing and assessment products are firmly rooted in established psychological and pedagogical theory, and our product development philosophy is customer focused. New test concepts are usually derived from the marketplace, often from our sales representatives who are in contact with teachers, guidance counselors, school psychologists, school administrators and other professionals who identify a testing need.
We develop new products through a systematic review of industry trends, including emerging trends in the education community, or in conversations with educators and other professionals who attend various trade and professional conferences where we are an exhibitor or attendee. Occasionally, we will be approached by an external author with a new test concept, which we will then evaluate in terms of its overall market potential. AGS also distributes a few select assessments from other publishers.
After we have created or revised a test, we then subject it to field tests. Once field-testing and any indicated adjustments are complete, the test undergoes standardization, generally being tested on 200 students per the age year targeted by the test and covering a broad range of demographic characteristics. In addition, we seek support for the test from key opinion makers in the subject area of the test. Only after these processes do we begin to market the test. The process is similar for most revisions of existing tests because when a test is updated, the new content similarly must be field-tested and then the revised test must undergo standardization. The development cycle for a new test or to make revisions to an existing test is typically five years from concept through the launch of the new or revised test. The life cycle for the new or revised test can be up to 15 years or more in some cases.
We develop supplemental instructional products internally and externally with developers and in close consultation with outside authors, on a royalty basis or on a fee-for-service arrangement. New product concepts are derived from various sources, including in-house development staff, outside authors and our sales force based on their regular meetings with educators and administrators. Most of these instructional products have a development cycle of approximately one year. For those not developed internally, we solicit bids for our new products from outside developers and award the contract based on price and other factors relating to the developer’s ability to deliver the finished product according to our exact specifications.
Compass/ChildU. Compass/ChildU has a combined product development team consisting of software engineers, programmers, quality assurance analysts, technical writers, instructional designers, subject matter experts, and project managers. The three primary objectives of their co-development efforts focus are creating local, state and national standards-based assessment product; delivering a Pre-K-12 local, state and national standards-based curricula; and developing a state-of-the-art instructional management and data reporting system.
Compass/ChildU is utilizing content from WRC Media affiliate companies and is employing off-shore software and content development resources to reduce costs and expedite delivery. These initiatives have helped and will continue to help the Company increase productivity.
World Almanac. World Almanac has in-house editorial staffs that at World Almanac Books and Funk & Wagnalls, work in conjunction with outside work-for-hire editors to develop its content; at the Facts On File New Services, develop the content of their products; and at Gareth Stevens, work with creative staff to develop content and also work with outside work-for-hire editors, writers, designers and licensors to develop content.
Individual members of the in-house editorial staff are generally responsible for only one of the product lines. The contents of our Funk & Wagnalls yearbooks are licensed from third parties. The Gareth Stevens nonfiction and fiction books are comprised of either content licensed from third parties and then repackaged and/or rewritten for the K-12 market in the United States or, especially in the case of books for the World Almanac Library and Weekly Reader Early Learning Library imprints, contain original content developed by in-house staff, freelance writers, and other providers of editorial services. World Almanac Education Library Services’ creative staff which designs the layout for the catalogs, selects the reference and informational
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materials which will be included in the catalogs and manages outside editorial services in the creating of new teaching kits.
World Almanac Education Library Services updates its catalogs twice each year. New editions of The World Almanac and Book Of Facts and The World Almanac For Kids are published each year. New product development is currently focused on offering products through Internet delivery. In 2000, we launched the following three additional World Almanac databases as part of the Facts On File News Services web service: Issues & Controversies On File, Today’s Science On File and the World Almanac Reference Database. In 2003, we launched Facts For Learning, an elementary school reference and research product. In 2003, our Facts On File archives since 1940 were included in the product delivered through the Internet.
Customers |
Our targeted customers, who vary depending on the product line and channel, are teachers, school and school district-level administrators, librarians, other educational professionals and parents.
Weekly Reader’s periodicals and other instructional materials are purchased mainly by teachers, as well as by school and school district-level administrators.
Customers of the Consumer and Custom Publishing programs generally are: corporations; trade associations; not-for-profit organizations; basal and supplemental publishers; and government agencies.
Customers of AGS’s assessment products generally are guidance counselors, school psychologists, speech pathologists, special education teachers and other similar school district-level specialists. Customers of AGS’s supplemental instructional materials generally are teachers and school-level administrators, as well as school district-level administrators. AGS also has customers outside of K-12 schools for its testing and assessment products and supplemental instructional materials, which include clinical psychologists, community colleges, adult educational programs and correctional facilities.
One or more of AGS’s testing and assessment or supplemental instructional products are used in over 12,000 school districts, or approximately 80% of the school districts in the United States.
Compass/ChildU’s customers consist primarily of school and school district-level administrators, including: superintendents; curriculum directors; technology directors; and principals. Although individual teachers do not typically make final purchasing decisions, they frequently have substantial input in the decision making process.
In 2004, approximately 90% of World Almanac’s sales were to schools and libraries. The remaining 10% of its sales consisted of yearbook sales and sales of The World Almanac and Book Of Facts and The World Almanac For Kids to trade consumers.
World Almanac Education Library Services and Gareth Stevens sell their products primarily to school libraries and to a lesser extent to public libraries and to schools and teachers for classroom use.
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Sales, Marketing and Distribution |
We have an extensive network with direct distribution channels to reach our primary customers. Our primary operating subsidiaries use one or more of the following methods to sell and market our products: direct mail, direct sales, outbound call centers and distribution through retail channels and independent resellers. The chart set forth below contains information regarding sales, marketing and distribution by Weekly Reader, American Guidance, Compass/ChildU and World Almanac, including their primary distribution channels.
| Weekly Reader | American Guidance | Compass- Learning / ChildU |
World Almanac | ||||||||||
Primary Method of Sales and Marketing |
Direct Mail | Direct Sales Force (field and telesales) | Direct Sales Force | Direct Mail: World Almanac Education Library Services and Funk & Wagnalls. Outbound Call Centers: Gareth Stevens, Inc., World Almanac Library Services and Facts On File News Services. Retail Marketing: World Almanac Books | |||||||||
Number of Mailings in 2004 |
46 mailings for a total mail quantity of 9.9 million pieces | Total mail quantity of 1.1 million pieces | N/A | World Almanac Education Library Services had 27 mailings for a total mail quantity of 2.1 million; Funk & Wagnalls Yearbook mail campaigns once a year | |||||||||
Number of Schools/Teachers/ Libraries in Database |
Over 114,000 schools; 4.1 million teachers | 240,000 customer locations | Over 27,000 labs in over 114,000 schools | Approximately 112,000 schools, 16,300 school districts, 15,900 public libraries, 3,900 academic libraries | |||||||||
Estimated Number of Schools/School Districts/Libraries with our products |
Over 56,000 schools | Over 12,000 school districts | Over 16,000 schools | Over 70,000 school and public libraries have purchased products from World Almanac |
Direct Mail. Direct mail consists mainly of well-planned mailings that target current and prospective customers, often with enclosed product samples and catalogs, which are used to generate product sales. This marketing technique is utilized to a significant extent by Weekly Reader, World Almanac’s World Almanac Education Library Services, and to a lesser extent by American Guidance, Compass/ChildU and World Almanac’s Funk & Wagnalls.
Weekly Reader’s classroom periodicals are marketed primarily through the use of direct mailings. Its experienced and skilled marketing staff has developed detailed mailing schedules and marketing strategies to reach current and prospective customers. In the marketing of its classroom periodicals, Weekly Reader has developed and maintained a valuable and proprietary database tracing the purchasing habits of approximately 4.1 million individual teachers and administrators and approximately 114,000 schools over the past five years as well as various demographic factors in each locale. In 2004, Weekly Reader mailed over 0.6 million catalogs and 9.3 million direct mail pieces primarily to teachers, as well as to school and school district-level administrators.
World Almanac also uses direct mail to generate sales. World Almanac’s World Almanac Education Library Services also uses direct mail to sell its products. This division of World Almanac has developed a sophisticated database that tracks customers and purchasing habits, including monetary value of an average purchase and other relevant factors, which it uses to target customers with the appropriate catalogs. Over 50% of World Almanac Education Library Services’ sales are generated from mailings of its main catalog, which is sent to existing and prospective customers. World Almanac mailed approximately 2.7 million direct mail pieces in 2004, including 2.5 million catalogs.
AGS printed and mailed more than 1.1 million promotional materials and catalogs in 2004, aimed at developing customer leads, spurring direct-response sales and building overall marketplace awareness of its brand and products.
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Funk & Wagnalls primarily markets its yearbooks to former subscribers of its previously published print format encyclopedia using direct mail.
Outbound Call Centers. Involves the use of the telephone to contact current and prospective customers as a means of generating sales. World Almanac’s Gareth Stevens, Inc. World Almanac Education Library Services and Facts On File News Services utilize this marketing technique to a significant extent, while Weekly Reader and Compass/ChildU use it to a lesser extent.
Gareth Stevens marketing strategy consists primarily of selling products through its active and growing outbound sales program. The division generates approximately 37% of all Gareth Stevens sales by contacting existing and prospective accounts to solicit commitments to preview titles from Gareth Stevens, Inc. and other third-party publishers. Through the preview process, librarians are invited to receive copies of Gareth Stevens titles or the third-party titles it distributes. The librarians then have the opportunity to review actual copies of the selected titles at their convenience. Gareth Stevens inside sales representatives follow up with these librarians over a specified time period to ensure that the product has been received and reviewed. Any titles not selected for purchase are picked up from the librarian’s location, with all postage and handling expenses borne by Gareth Stevens. Depending on the school year cycle, there are usually between 50 and 100 part-time and full-time telesales representatives in the Gareth Stevens telemarketing unit.
World Almanac’s Facts On File News Services’ strategy for attracting new customers consists of using targeted prospects derived from a variety of sources including rented lists, followed by telemarketing calls from representatives who are recruited and trained by Facts On File News Services. Over the past three years, World Almanac Education Library Services has increased its telemarketing capacity to promote its products, and this channel accounted for 20% of revenues in 2004.
Weekly Reader’s outbound sales call center primarily targets new subscribers. Weekly Reader also conducts sales campaigns, to assist in the generation of renewal sales.
Compass/ChildU’s inside sales group assists its direct sales force by qualifying sales leads in conjunction with funding eligibility and also promotes renewal sales of professional development and technical support services contracts.
Direct Sales Forces. AGS, Compass/ChildU and Weekly Reader’s CCP each primarily use a direct sales force to sell and market their products.
To market its testing and supplemental instructional materials, AGS pursues a strategy of developing strong relationships with its current and prospective customers primarily by using its sales organization. Beginning September 2003, the sales personnel were aligned to either the assessment or curriculum product line, whereas each previously the sold all of AGS’ products. We feel that this focus will improve their effectiveness and ultimately increase customer satisfaction and sales.
These representatives work closely with schools to determine which of AGS’s products best serve the needs of a specific school’s student body. In a departure from traditional telemarketing, AGS’s telephone (inside) sales representatives develop relationships with customers and occasionally make field visits. All of AGS’s sales representatives go through a training process with defined objectives that they must satisfy during the initial six months of their employment and each year thereafter. In addition, AGS enlists professionals on a per diem basis to provide instruction to educators concerning test administration, scoring and other professional training such as disciplinary methods and substance abuse and violence prevention techniques.
Compass/ChildU maintains a direct sales force of over 60 employees. The sales representatives are each assigned to a sales region within the United States. Each member of the direct sales force has access to Compass/ChildU’s database of detailed information concerning the school districts, current customers, school funding and other data for its sales territories. On the basis of this information, the sales representatives seek to establish relationships with, and brand awareness for, Compass/ChildU’s products among existing and potential customers in their respective districts by making personal sales visits to the schools or school administrators.
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WRC Consumer and Custom Publishing has a dedicated field based marketing and sales team who make presentations directly to potential basal and supplemental publisher corporations, trade associations and not-for-profit organization clients. These representatives are covering the largest Designated Market Areas in the United States. Presentations generally consist of proposals for education materials and programs to be distributed free to teachers and schools under the client’s sponsorship. In addition, World Almanac also has engaged an independent licensing agent specifically to leverage The World Almanac and Book of Facts.
Retail Marketing/wholesalers. Approximately 74% of World Almanac Books’ revenue is generated from product sold through retail bookstores or through wholesalers into mass-market locations such as supermarkets and newsstands. World Almanac Books’ products are also sold to book clubs and other resellers, as well as into libraries through World Almanac Education Library Services. In addition, Gareth Stevens distributes approximately 50% of its products through its network of wholesalers to libraries and classrooms.
Internet Web Sites. Weekly Reader (www.weeklyreader.com), AGS (www.agsnet.com), and World Almanac (www.worldalmanaclibrary.com, www.garethstevens.com, www.facts.com) all have free Internet web sites, which allow customers to order their products. The Weekly Reader web site features pages specifically addressing students, teachers, and parents; and offers materials in the form of puzzles, experiments and games that correlate with the content of Weekly Reader periodicals.
The AGS web site, provides extensive company information, customer service information, order placement information and a complete description of its products. The web site also includes product forums, which give detailed information about those specific products. AGS had approximately $12.4 million in web site sales, including orders initiated with an Internet effort code and actual online orders, in 2004.
World Almanac has multiple websites that offer a variety of content and services. Both the World Almanac Education Library Services and Gareth Stevens websites offer Internet ordering as well as provide a complete description of their products. The World Almanac for Kids website offers materials in the form of games, quizzes and reference facts that correlate with the content of The World Almanac for Kids book. In addition to free Internet websites, World Almanac sells subscription based Internet products through its Facts On File News Services unit.
The Compass/ChildU web site serves as a customer resource for information about its software solutions. Compass/ChildU also uses its web site for customer support self service. Compass/ChildU’s Odyssey product is delivered through the web and is accessible at http://www.compasslearningodyssey.com.
Shipment. Our periodicals are typically shipped second-class mail directly from the location at which they were printed. Teen Newsweek, however, is delivered by truck and/or air directly to United States Postal Service bulk mail centers to speed delivery. Our other print materials are typically delivered by fourth-class mail or, in some cases, by the United Parcel Service or other courier services.
Competition |
Weekly Reader. Our primary competitors in the Pre-K-12 classroom periodicals market are Scholastic Inc. and Time, Inc. These publishers together with Weekly Reader publish virtually the entire market of periodicals targeted for Pre-K-12 classrooms. Scholastic Inc. publishes nine editions in the elementary school market and eight editions in the middle and secondary school market. Time, Inc. publishes three editions in the elementary school market but has no editions in the middle and secondary school market. Competition in the school periodicals market is based primarily on content, price, reputation, and customer service.
In the elementary school periodicals market, we believe we compete effectively with our competitors by combining engaging and grade appropriate content that ties closely to school curriculum. In the secondary school periodicals market, our competitive strengths include content that appeals to the student, which also has strong educational value and ties to school curriculum.
In supplementary products, we compete with many large and small publishers, primarily on the basis of subject matter, expertise and price.
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In the arena of sponsored supplemental educational materials, Consumer and Custom Publishing competes primarily with Scholastic Inc., and regional competitors. Competition in this market is based on editorial quality, distribution capability and cost. Consumer and Custom Publishing’s core competencies, which we believe give us a significant competitive advantage over our smaller competitors, include the ability to leverage the Weekly Reader and World Almanac brands; multiple media product development offerings; and broad distribution capabilities through the Company’s distribution channels.
American Guidance Services. In the assessment area, our principal competitors are The Psychological Corporation (now known as Harcourt Assessments) and Riverside Publishing Company.
These companies focus mainly on norm-referenced achievement tests, which are administered in large groups, while individually administered assessment tests, our target market, represent a secondary product line. We believe we are well positioned to compete successfully in both the individually administered assessment test market and the supplemental print instructional materials market based on our reputation, content and ability to reach the customer base.
In the individually administered assessment test market, where quality and reputation are the primary decision criteria, we have been providing market-leading materials for over 47 years. We believe we are internationally recognized for publishing technically sound diagnostic assessments that are primarily used to identify strengths and weaknesses at the individual level. Because we believe none of our competitors has matched our depth in content, authorship and test instruction in speech/language assessments, we maintain a competitive advantage in the individually administered assessment test market.
Globe Fearon, a unit of Pearson, is our largest competitor in the middle school and high school low-level textbook market. Improvements in AGS Publishing’s textbook line (4-color printing, teacher tools and technology enablers) as well as development of new textbook lines and participation in statewide adoptions have enabled AGS to maintain and improve market share in this arena.
Compass/ChildU. Within the electronic courseware market, we compete primarily with other providers of integrated curriculum software and, to a lesser extent, with independent software vendors and traditional print education publishers. Our primary competitors are: Plato Learning/Lightspan, NCS Learn (CCC), and Riverdeep. Competition in the supplemental electronic instructional materials market is based primarily upon product effectiveness, design flexibility and relationships with customers. We believe we are competitive on all these factors. Our CompassLearning Odyssey product is more advanced than most of our competitors in its architecture, flexibility and curriculum design and pedagogy. Over the past two years, the CompassLearning Odyssey solution has won several industry awards including 2004 eSchool New Reader’s Choice Awards and it is a 2005 finalist for Codie Awards.
World Almanac. World Almanac Education Library Services is a niche player in the school and public library distribution business. Competitors range from full service distributors, such as Follet Library Resources and Baker & Taylor Corporation, to smaller ones such as Gumdrop Books, Inc. and Davidson Titles, Inc. World Almanac Education Library Services competes with larger distributors by providing: more product information; energetic customer service; and a pre-screened selection of the season’s titles.
Gareth Stevens, Inc. competes in the K-12 nonfiction and fiction-publishing segment of this market, which is highly fragmented with many competitors ranging from small publishers that specialize in the library market to larger publishers that also sell into the trade market. Some of Gareth Stevens, Inc.’s larger competitors (and their library imprints or subsidiaries) include: Reed Elsevier (Heinemann Library, Raintree Steck Vaughn); Scholastic (Children’s Press, Franklin Watts); The Gale Group (Lucent, Greenhaven, KidHaven, Blackbirch); Capstone Publishing; Haights Cross (Chelsea House); Rosen Publishing Group (Rosen, Rosen Central, PowerKids Press); and Lerner Publishing.
Gareth Stevens, Inc.’s classroom publishing line competes with the classroom products of a wide range of publishers which include: McGraw-Hill; Scholastic; Harcourt Brace; Houghton Mifflin Company; Haights Cross; and National Geographic.
Competition in the electronic reference materials category is somewhat more concentrated. Some of the larger competitors in this category include: The Gale Group, Inc.; EBSCO Industries, Inc.; and ProQuest, Inc.
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Products sold to school and public libraries tend to be less price sensitive than in a consumer market. The World Almanac and Book Of Facts compete primarily with the three other almanacs currently available: The Time/Information Please Almanac; The New York Times Almanac; and Encyclopedia Britannica Almanac.
According to Bookscan sales data for the most recent edition, The World Almanac and Book Of Facts has a market share greater than 80%. Competition in all of these segments is primarily based on reputation and brand names of products, the length of time products have been on the market and the uniqueness of a product. We believe we have a competitive advantage with all these factors. Many of our competitors, however, have larger publishing organizations, and therefore are able to generate greater potential economies of scale than we can. Our larger competitors, which offer broader product lines, also provide more comprehensive shopping opportunities to library customers than we do with our narrower product focus.
Production, Fulfillment and Customer Service |
All of our print products are printed and bound by third parties with whom we have contracts or to whom we issue purchase orders on a project-by-project basis. We believe that outside printing and binding services at competitive prices are available, and we currently use a different printer for each product line. Most of our pre-press production, typesetting, layout and design functions are conducted in-house, with the exception of American Guidance where most pre-press is conducted by third-party vendors. Our non-print products, such as Consumer and Custom Publishing’s videos and CompassLearning’s CD-ROMs, are produced internally and, if necessary, replicated by third parties. Some of World Almanac’s divisions rely on internal production capabilities while others utilize third-party manufacturers.
The principal raw materials utilized in our products are paper and ink. Paper is purchased by Weekly Reader and several of World Almanac’s divisions from both suppliers and printers directly based on pricing and, to a lesser extent, availability, while American Guidance and Gareth Stevens purchase finished goods including paper components from the printers of their publications. Ink utilized by our publications is provided by the respective printers of our publications and included in the cost of print production. Both paper and ink are commodity products, which are affected by demand, capacity and economic conditions. We believe that adequate sources of supply are, and will continue to be, available to fulfill our requirements.
Order processing, customer service, cash application and collection, and fulfillment functions have been performed at separate locations for each of our operating subsidiaries, which currently include:
| • | Weekly Reader – Delran, New Jersey; |
| • | AGS – Circle Pines and Shoreview, Minnesota; |
| • | CompassLearning – Phoenix, Arizona and San Diego, California; and |
| • | World Almanac – Delran, New Jersey, Milwaukee, Wisconsin, New York, New York and Cleveland, Ohio. |
Fulfillment for some of Weekly Reader and World Almanac’s products are conducted by third parties.
Intellectual Property |
Each operating unit maintains a portfolio of registered trademarks. The decision to register a given trademark is made on an individual basis.
Weekly Reader. Copyright in each printed periodical or skills book is held by Weekly Reader, including any materials written by freelance or third party contract writers. Photographs or artwork used in our products are typically used pursuant to one-time licenses, which grant us the right to use the photograph or artwork in the particular product and within the United States only. Some material from third parties is reprinted with permission for one-time use. Ownership of the intellectual property rights in the materials produced by Consumer and Custom Publishing are negotiated on a case-by-case basis with each sponsor.
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American Guidance Services. Our tests, the accompanying score sheets and test record forms, and supplemental instructional materials are protected by copyrights. Some material from third parties is reprinted with permission. In addition, some products use registered trademarks.
Compass/ChildU. Copyright in Compass/ChildU’s computer software products is held by CompassLearning or ChildU. These products often incorporate software under license from other entities. In addition, we periodically obtain permission to use excerpts of third- party materials on an ongoing basis in some of our products or obtain a license from these proprietors to act as a distributor of their products.
World Almanac. World Almanac owns copyrights for each edition of The World Almanac and Book Of Facts, The World Almanac For Kids, all Facts On File News Services products other than Editorials On File (which consists of editorials reprinted with permission), all Gareth Stevens books which are written in-house or commissioned, the Funk & Wagnalls Encyclopedia database and the World Almanac Education Library Services catalogs. World Almanac is typically a licensee of the content of the remainder of its products.
Environmental Matters |
We are subject to environmental laws and regulations relating to the protection of the environment, including those that regulate the generation and disposal of hazardous materials and worker health and safety. We believe that we currently conduct our operations in substantial compliance with applicable environmental laws and regulations. Based on our experience to date, the nature of our operations and an environmental indemnity from PRIMEDIA delivered with the 1999 recapitalization transactions by which WRC Media acquired its interest in Weekly Reader, AGS and World Almanac, we believe that the future cost of compliance with existing environmental laws and regulations and any liability for environmental claims will not have a material adverse effect on our financial condition or results of operations.
Employees |
At December 31, 2004, we had a total of 932 employees. None of our employees are represented by any union or other labor organization. We have had no recent strikes or work stoppages and believe our relations with our employees are good.
ITEM 2. Properties |
The Company maintains its headquarters in the metropolitan New York area, where it leases approximately 35,000 square feet of space for executive offices and certain of its operating divisions. In 2003, the Company entered into an agreement to sublease approximately 11,000 square feet of excess space in its headquarters location. The Company also leases an aggregate of approximately 420,000 square feet of office, warehouse and mixed use space in Connecticut, California, Arizona, Minnesota, Florida, New Jersey, Ohio, Illinois and Wisconsin.
The Company considers its properties adequate for its current needs. No difficulties are anticipated in negotiating lease renewals as leases expire or in finding other satisfactory space, if current premises become unavailable.
ITEM 3. Legal Proceedings |
Various claims and lawsuits arising out of the normal course of business are pending against the Company. The results of these proceedings are not expected to have a material adverse effect on the Company’s consolidated financial position or results of operations.
As previously disclosed in our Form 8-K filed with the SEC on December 15, 2003, the SEC has been conducting an informal inquiry concerning the Company. The SEC’s inquiry focused on a single December 2002 transaction involving the Company’s CompassLearning unit, with respect to which the Company initially recognized revenue in the 4th Quarter of 2002, established a bad debt reserve in the 1st Quarter of 2003 for the full amount of the previously recorded accounts receivable related to this transaction and subsequently reversed entirely when the Company restated in 2004 its financial statements for 2002 and 2003 for this and other matters, as described in our Form 10-K filed with the SEC on June 15, 2004. In connection
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with this inquiry, on February 3, 2005 three of the Company’s employees, including the Company’s then Chief Executive Officer, Martin E. Kenney and two non-executive employees of CompassLearning, received “Wells” notices from the staff of the SEC informing them that the staff intends to recommend that the SEC commence legal actions against them, alleging violations of Section 10(b) of the Securities Exchange Act of 1934, Rule 10b-5 thereunder and certain other federal securities laws. The Company did not receive a “Wells” notice from the staff of the SEC and has no reason to believe that it will become the subject of an enforcement action related to the SEC investigation.
On February 9, 2005, Martin E. Kenney requested leave from the position of Chief Executive Officer of the Company and resigned as a Director on the Company. On February 9, 2005, the Board granted Mr. Kenney paid leave and accepted his resignation as a Director. During the pendency of his leave of absence, Mr. Kenney will remain an employee of the Company but will have no responsibility for the Company’s day-to-day management and no responsibility for the preparation of the Company’s financial statements, its public disclosure documents or similar matters. Mr. Kenney has agreed to perform limited services during his leave including work on pending special projects. On February 9, 2005, the Board of Directors of the Company appointed Ralph D. Caulo as interim Chief Executive Officer of the Company. Mr. Caulo has been the Non-Executive Vice-Chairman and a Director on the Company’s Board of Directors since 1999. The two non-executive employees of CompassLearning were also placed on paid leave.
ITEM 4. Submission of Matters to a Vote of Security Holders |
During the fourth quarter of the year covered by this report, no matter was submitted to the vote of security holders, through the solicitation of proxy or otherwise.
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PART II
ITEM 5. Market for the Registrant’s Senior Subordinated Notes, Related Stockholder Matters and Issues/Purchases of Equity Securities |
The Company’s 12.75% Senior Subordinated Notes are traded on the Over-the-Counter Market under the symbol WRCMED.
ITEM 6. Selected Historical Financial Information WRC Media and Its Subsidiaries |
The following table presents selected historical consolidated financial information for WRC Media and its subsidiaries as of and for the years ended December 31, 2000, 2001, 2002, 2003 and 2004. The selected historical consolidated financial information presented in the table below is derived from the historical consolidated financial statements of WRC Media and its subsidiaries as of December 31, 2000, 2001 and 2002, and for the years ended December 31, 2000 and 2001 which are not included elsewhere in this annual report and the historical consolidated financial statements of WRC Media and its subsidiaries as of December 31, 2003 and 2004 and for the years ended December 31, 2002, 2003 and 2004, which are included elsewhere in this report. The selected historical consolidated financial information does not purport to indicate results of operations as of any future date or for any future period. This information should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Results of Operations-WRC Media and Subsidiaries,” and the financial statements of WRC Media and its subsidiaries and the notes to them, included elsewhere in this report.
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ITEM 6. Selected Financial Data — WRC Media Inc. and Subsidiaries |
| Year Ended December 31, |
||||||||||||||||
| 2000 | 2001 | 2002 | 2003 | 2004 | ||||||||||||
| (unaudited) | ||||||||||||||||
Statement of Operations Data: |
||||||||||||||||
Revenue, net |
$ | 217,743 | $ | 226,897 | $ | 207,873 | $ | 202,703 | $ | 209,468 | ||||||
Gross profit |
151,366 | 162,151 | 147,920 | 146,258 | 150,654 | |||||||||||
Sales and marketing |
49,002 | 55,107 | 48,588 | 47,201 | 52,386 | |||||||||||
Research and development |
4,708 | 5,989 | 1,728 | 1,424 | 1,741 | |||||||||||
General and administrative expenses (a) |
51,371 | 54,138 | 50,793 | 50,370 | 55,188 | |||||||||||
Other operating costs: |
||||||||||||||||
Restructuring costs and other non-recurring expense (b) |
— | — | 8,594 | 1,018 | 1,537 | |||||||||||
Amortization of goodwill and intangible assets and depreciation (c) |
71,005 | 62,445 | 19,718 | 19,826 | 18,246 | |||||||||||
Impairment of goodwill and intangible assets (d) |
— | — | — | — | 37,424 | |||||||||||
Write-off of in-process research and development (e) |
2,250 | — | — | — | — | |||||||||||
Income (loss) from operations |
(26,970 | ) | (15,528 | ) | 18,499 | 26,419 | (15,868 | ) | ||||||||
Interest expense |
35,450 | 33,455 | 30,061 | 29,349 | 56,674 | |||||||||||
Net Loss |
(62,789 | ) | (51,224 | ) | (22,085 | ) | (7,434 | ) | (71,403 | ) | ||||||
Balance Sheet Data: |
||||||||||||||||
(end of year) |
||||||||||||||||
Working capital deficit |
(26,525 | ) | (19,552 | ) | (34,550 | ) | (34,495 | ) | (13,518 | ) | ||||||
Total assets |
503,443 | 467,130 | 438,636 | 420,207 | 389,556 | |||||||||||
Long term obligations (Long term debt, including current portion and Redeemable preferred stock) |
351,944 | 373,171 | 384,712 | 402,103 | 446,892 | |||||||||||
Total stockholders’ equity (deficit) |
32,352 | (17,834 | ) | (60,126 | ) | (85,731 | ) | (157,007 | ) | |||||||
Other Data: |
||||||||||||||||
Capital expenditures and prepublication costs |
$ | 9,198 | $ | 11,194 | $ | 11,146 | $ | 10,408 | $ | 10,507 | ||||||
| a) | General and administrative expenses comprise distribution, circulation and fulfillment, editorial and general and administrative expenses. |
| b) | For the years ended December 31, 2002, 2003 and 2004, $8,594, $1,018 and $1,537 of restructuring costs and other non-recurring expenses were recorded in connection with the Company’s 2002 Plan of Restructuring, respectively. The major cost reduction initiatives included in
the 2002 Plan of Restructuring consisted of: closure of facilities and a reduction in work force. One hundred and seven positions were eliminated throughout WRC Media. The workforce reduction involved each of the four operating units of the Company. For the year ended
December 31, 2004, an additional $1,537 of restructuring costs was recognized, consisting primarily of lease cost adjustments due to updating assumptions used in determining the fair value of remaining lease obligations associated with facilities vacated in 2002 |
| c) | Includes depreciation of fixed assets, amortization of prepublication costs, goodwill, and other intangibles. |
| d) | WRC Media recorded impairment charges of $36,079 and $1,345 for goodwill and intangible assets at the World Almanac reporting unit as a result of our annual impairment review. |
| e) | WRC Media wrote-off $2,250 of in-process R&D related to a next generation reading system deemed not to be technologically feasible in fiscal 2000. |
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Selected Historical Consolidated Financial Information Weekly Reader
The following table presents selected historical consolidated financial information for Weekly Reader and its subsidiaries as of and for each of the five years in the period ended December 31, 2004. The selected historical consolidated financial information presented below is derived from the historical consolidated financial statements of Weekly Reader as of December 31, 2000, 2001, and 2002 and for the years ended December 31, 2000 and 2001 which are not included in this annual report, as well as the historical consolidated financial statements of Weekly Reader as of December 31, 2003 and 2004 and for the years ended December 31, 2002, 2003 and 2004 which are included elsewhere in this annual report. The selected historical consolidated financial statements do not indicate results of operations as of any future date or for any future period. This information should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations–Results of Operations–Weekly Reader and Subsidiaries” and the financial statements and related notes to them included elsewhere in this report.
ITEM 6. Selected Financial Data — Weekly Reader Corporation and Subsidiaries |
| Year Ended December 31, |
||||||||||||||||
| 2000 | 2001 | 2002 | 2003 | 2004 | ||||||||||||
| (unaudited) | ||||||||||||||||
Statement of Operations Data: |
||||||||||||||||
Revenue, net |
$ | 154,873 | $ | 158,480 | $ | 155,055 | $ | 152,110 | $ | 161,865 | ||||||
Gross profit |
113,642 | 117,583 | 116,408 | 114,371 | 122,500 | |||||||||||
Sales and marketing |
27,183 | 29,478 | 28,179 | 28,241 | 33,557 | |||||||||||
general and administrative expenses (a) |
42,214 | 45,026 | 43,513 | 44,002 | 47,291 | |||||||||||
other operating costs: |
||||||||||||||||
Restructuring costs and other non-recurring expenses (b) |
— | — | 4,280 | (516 | ) | (15 | ) | |||||||||
Amortization of goodwill and intangible assets and depreciation (c) |
8,812 | 10,749 | 9,221 | 10,794 | 9,921 | |||||||||||
Income from operations |
35,433 | 32,330 | 31,215 | 31,850 | 31,746 | |||||||||||
Interest expense |
34,293 | 32,267 | 28,877 | 28,091 | 52,419 | |||||||||||
Net income (loss) |
779 | (852 | ) | (898 | ) | 2,451 | (22,196 | ) | ||||||||
Balance Sheet Data: |
||||||||||||||||
(end of year) |
||||||||||||||||
Working capital (deficit) |
(2,376 | ) | (5,575 | ) | (8,762 | ) | (3,043 | ) | 14,996 | |||||||
Total assets |
227,377 | 229,150 | 226,084 | 222,756 | 252,025 | |||||||||||
Long term obligations (Long-term debt, including current portion and redeemable preferred stock) |
362,676 | 382,984 | 393,592 | 410,038 | 453,868 | |||||||||||
total stockholders’ deficit |
(202,392 | ) | (215,872 | ) | (231,226 | ) | (240,958 | ) | (256,233 | ) | ||||||
Other data: |
||||||||||||||||
Capital expenditures and prepublication costs |
$ | 7,613 | $ | 10,966 | $ | 10,834 | $ | 9,576 | $ | 10,330 | ||||||
| (a) | General and administrative expenses comprise distribution, circulation and fulfillment, editorial and general and administrative expenses. |
| (b) | For the years ended December 31, 2002, 2003 and 2004, $4,280, ($516) and ($15) of restructuring costs and other non-recurring expense were recorded in connection with the Company’s 2002 Plan of Restructuring. The major cost reduction initiatives included in the 2002 Plan of
Restructuring consisted of: closure of facilities and a reduction in work force. Fifty-one positions were eliminated throughout Weekly Reader Corporation. The workforce reduction involved each of the three operating units of Weekly Reader Corporation. For the year ended
December 31, 2004, an adjustment of $15 was recognized relating to updating assumptions used in determining the fair value of remaining lease obligations associated with facilities vacated in 2002. |
| (c) | Includes depreciation of fixed assets, amortization of prepublication costs, goodwill, and other intangibles. |
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ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations |
The following discussion is intended to assist in understanding the financial condition as of December 31, 2004 of WRC Media Inc. (“WRC Media”) and its subsidiaries, Weekly Reader Corporation (“Weekly Reader”) and its subsidiaries, and their results of operations for the years ended December 31, 2002, 2003 and 2004. You should read the following discussion in conjunction with the Consolidated Financial Statements of WRC Media and its subsidiaries and Weekly Reader and its subsidiaries and the Notes thereto included in “Item 8. Consolidated Financial Statements.” Unless the context otherwise requires, the terms “we,” “our,” and “us” refer to WRC Media and its subsidiaries. This discussion and analysis contains forward-looking statements. Although we believe that our plans, intentions and expectations reflected in or suggested by these forward-looking statements are reasonable, we cannot assure you that these plans, intentions or expectations will be achieved. These forward-looking statements are subject to risks, uncertainties and assumptions about us.
Overview |
We are a leading publisher of supplemental education materials for the Pre-K-12 education market. Our portfolio of products includes a broad range of both print and electronic supplemental instructional materials, testing and assessment products and library materials, several of which have been published for over 100 years. Our revenues consist primarily of subscription revenues from our periodicals; revenues from sales of printed products including nonfiction and fiction books, workbooks, worktexts, reference materials and test preparation materials; computer courseware and hardware; professional development services; and technical support services.
Weekly Reader is a leading publisher of classroom periodicals based on the 2003-2004 school year circulation of 6.4 million subscribers. In addition to our well-recognized classroom periodicals, such as Weekly Reader and Current Events, we publish distinct, grade- specific basic and life skills workbooks. American Guidance Service, Inc. (“AGS”) has been a leading publisher of individually administered and group testing and assessment products, and supplemental instructional materials for over 47 years. AGS’s testing and assessment products are primarily for K-12 students and its supplemental instructional materials are primarily for low-performing students in middle and secondary schools. Compass/ChildU is a research-based, technology learning solutions company that produces comprehensive educational assessment, curriculum and management tools for grades Pre-K-12, all of which are aligned to local, state and national standards. Compass/ChildU’s library of content contains over 4,000 hours of standards based instruction in subject areas of reading, writing, language arts, mathematics, science, social studies, and project based learning. This interactive, standards-based managed assessment and curriculum helps educators individualize learning on a per student basis. Compass/ChildU has been serving the Pre-K-12 markets for over 30 years and its products have been a significant part of the learning and teaching process. Research on Compass/ChildU products demonstrates the efficacy of our products in various environments and under a diverse set of circumstances. World Almanac has been a leading publisher of reference and informational materials targeted to K-12 students, as well as other well-known general reference and informational materials, for over 135 years. World Almanac publishes well-known print reference materials, such as The World Almanac and Book of Facts, The World Almanac For Kids and nonfiction and fiction books for K-12 students under three Gareth Stevens imprints. In addition, World Almanac publishes electronic reference materials such as the Funk & Wagnalls Encyclopedia database and an Internet-based version of Facts On File World News Digest, which in its print version is World Almanac’s leading subscription-based product with renewal rates averaging 86% from 1997 through 2003. World Almanac also distributes third-party products that are targeted for K-12 students through its Gareth Stevens and World Almanac Education Library Services (“WAELS”) catalogs.
The education market follows the cycles of the overall economy, generally on a trailing basis. This correlation is more pronounced for certain sectors of the supplementary education market than others, reflecting the impact of legislative pedagogical initiatives. For instance, Congress has recently approved provisions that permit teachers to use supplemental instructional materials to support the instruction of children served by Individuals with Disabilities Education Act (IDEA)-authorized programs. English Language Learners programs are also receiving funding increases in excess of the overall growth in educational funding. However, in certain other segments, such as digital curriculum and the library market,
25
funding remains tight. There are indications that the economy, and the resulting state and local funding, is improving. Accordingly, we are seeing signs of a moderately improving K–12 funding environment. In addition, funding provided by the No Child Left Behind Act (“NCLB”), which was passed in 2002, is being disbursed. We believe that the delay in the availability of funds was caused by a number of factors which included:
| • | A change in the mix for formula-based grants and competitive grants which required school districts to change the way they applied for and received state funding; |
| • | The federal government’s guidelines to states for distributing funds and in turn, each state’s interpretation of the rules to satisfy these guidelines; |
| • | The federal government’s new requirements, like the need for professionals with a minimum two-year degree and the emphasis on scientifically based programs, caused some confusion at the school level; and |
| • | Together these changes caused delays in the movement of funds from the federal and state sources to the school district level. |
After several years, however, coinciding with the 2004-2005 school year, the operating environment showed signs of a recovery beginning in the third quarter of 2004. In particular state budgets showed improvement as school districts gained a better understanding of the requirements for funding under the “No Child Left Behind Act.” In turn, Federal funds associated with the “No Child Left Behind Act” are now being disbursed to school districts at a faster rate.
WRC Media’s business strategy is to drive growth by leveraging our new product offerings in 2004 with investments in sales and marketing programs to drive expansion into our core markets, while expanding into new distribution channels.
Our operations are conducted primarily through the following four operating segments: Weekly Reader; American Guidance; Compass/ChildU and World Almanac.
Critical Accounting Policies and Estimates |
The discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements require us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to allowances for doubtful accounts, reserves for sales returns and the recoverability of long-lived assets. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. These form the basis of our judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ materially from these estimates, which would affect our reported results from operations. The following is a description of what we believe to be the critical accounting policies and estimates used in the preparation of our consolidated financial statements.
Revenue Recognition |
The Company’s revenue recognition policies for its principal businesses are as follows:
• Periodicals. Revenue is deferred and recognized ratably over the subscription period as the periodicals are delivered.
• Educational Publishing. For shipments to schools, revenue is recognized on passage of title, which occurs upon shipment. Shipments to depositories are made on consignment. Revenue is recognized based on reported shipments from the depositories to the schools. Likewise, shipments to the distributor of the World Almanac and Book Of Facts and the World Almanac For Kids books are consignment sales. Revenue is recognized based on reported shipments from the distributor to its customers (primarily retail book stores).
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For certain software-based product, the Company offers new customers installation and training. In such cases, revenue is recognized when installation and training are complete.
• Reference and Trade. Revenue from the sale of children’s books through the wholesale channel are recognized when books are shipped to wholesalers. Sales to school and public libraries made through the telemarketing preview channel are recorded upon notification from the customer of their intention to retain the previewed product. The sale of children’s books to bookstores and mass merchandisers primarily are recognized by the Company at the time the distributor ships these products to its customer. Concurrent with the recording of this revenue, the Company records distributions fees as a reduction of revenue.
• Educational Software and Related Products and Services. Software revenues are recognized in accordance with the provisions of Statement of Position (SOP) 97-2, “Software Revenue Recognition,” as amended by SOP 98-9, “Modification of SOP 97-2, Software Revenue Recognition, with Respect to Certain Transactions.” Under SOP 97-2, we recognize revenue for hardware and software sales upon shipment of the product, provided collection of the receivable is probable, payment is due within one year and the fee is fixed or determinable. If an acceptance period is required, revenues are recognized upon the earlier of customer acceptance or the expiration of the acceptance period. If significant post-delivery obligations, revenues are deferred until no significant obligations remain. Revenue from service contracts, instruction and user training is recognized as the services are performed. Software hosting services and post-contract support is recognized ratably over the term of the related contract. Deferred revenue represents the Company’s obligation to perform under signed contracts. For contracts with multiple elements (e.g., deliverable and undelivered products, maintenance and other post-contract support), the Company allocates revenue to each undelivered element of the contract based on vendor specific objective evidence of its fair value. The Company recognizes revenue allocated to delivered products on the residual method when the criteria for product revenue recognition set forth above are met. Certain of the Company’s customers are subject to fiscal funding requirements. If the funding requirements are subject to governmental approval, the likelihood of cancellation is assessed. If the likelihood of cancellation is assessed as remote, revenue is recognized. If the likelihood of cancellation is assessed as other than remote, revenue is deferred. If the funding requirements are subject to non-governmental approval, revenue is deferred and recognized in accordance with the remaining provisions of SOP 97-2. The Company also enters into lease financing arrangements for its software products and services. These leases are immediately assigned to a third-party with no recourse to the Company. The Company retains no risk in these arrangements and has no history of granting concessions related to the arrangements. Accordingly, the Company recognizes revenue upon delivery of its products and services under these lease arrangements.
• Licensing. Licensing revenue is recorded in accordance with royalty agreements at the time licensed materials are available to the licensee and collections are reasonably assured.
• Advertising. Revenue is recognized when the periodicals are shipped and available to the subscribers.
Pre-publication Costs |
Marketing, selling, distribution, editorial, and other general and administrative expenses are generally expensed as incurred. Certain editorial costs relating to the American Guidance, Weekly Reader and World Almanac product lines are deferred and amortized using both straight-line and accelerated methods over periods ranging from five to ten years. The amortization is based on the expected life of the publication, which is determined based on the Company’s historical experience with similar publications.
Direct-response Advertising Costs |
Advertising and subscription acquisition costs are expensed the first time the advertising takes place, except for direct-response advertising, the primary purpose of which is to elicit sales from customers who can be shown to have responded specifically to the advertising and that results in probable future economic benefits. Direct-response advertising consists of product promotional mailings, catalogs and subscription promotions. These direct-response advertising costs are capitalized and amortized over the estimated period of future benefit using a ratio of current period revenues to total current and estimated future period revenues. The amortization periods range from ten months to thirty months subsequent to the promotional event.
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Amortization of direct-response advertising costs is included in marketing and selling expenses in the Company’s consolidated statement of operations.
Allowance for Doubtful Accounts |
Allowances for doubtful accounts are estimated losses resulting from our customers’ failure to make required payments. The Company continually monitors collections from customers and provides a provision for estimated credit losses based upon historical experience. The Company aggressively pursues collection efforts on these overdue accounts and upon collection reverses the write-off in future periods. If future payments by our customers were to differ from our estimates, we may need to increase or decrease our allowances for doubtful accounts.
Reserve for Sales Returns |
Reserves for sales returns and allowances are primarily related to our printed publications. The Company estimates and maintains these reserves based primarily on its distributors’ historical return practices and our actual return experience. If actual sales returns and allowances differ from the estimated return and allowance rates used, we may need to increase or decrease our reserve for sales returns and allowances.
Impairment of Long-lived Assets |
The Company periodically evaluates the recoverability of our long-lived assets, including property and equipment, and finite lived intangible assets, whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. Our evaluations include analyses based on the undiscounted cash flows generated by the underlying assets, profitability information, including estimated future operating results and/or trends. If the value of the asset determined by these evaluations is less than its carrying amount, an impairment charge is recognized for the difference between the fair value and the carrying value of the asset. Future adverse changes in market conditions or poor operating results of the related business may indicate an inability to recover the carrying value of the assets, thereby possibly requiring an impairment charge to the carrying value of the asset, in the future.
Goodwill and Other Identified Intangible Assets |
We test goodwill for impairment annually and whenever events or circumstances make it more likely than not that an impairment may have occurred, such as a significant adverse change in the business climate or a decision to sell or dispose of a reporting unit. Determining whether an impairment of goodwill has occurred requires valuation of the respective reporting unit, which we estimate using both discounted cash flow as well as market approach methodologies. In applying these methodologies, we rely on a number of factors, including actual operating results, future business plans, economic projections and market data.
If this analysis indicates goodwill is impaired, measuring its impairment requires a fair value estimate of each identified tangible and intangible asset.
We test intangible assets with indefinite lives annually for impairment using a fair value methodology such as discounted cash flows.
Valuation of Equity Instruments |
The Company has granted stock options to certain of its employees. Certain of these options contain a cashless exercise provision, which require the Company to account for such options using variable plan accounting. The Company recognizes compensation expense related to those options with the cashless exercise provision if fair market value of the Company’s common stock, as estimated by the Company’s Board of Directors, exceeds the exercise price of the options.
The fair market value of the Company’s common stock is determined by its Board of Directors based on information available to the Board of Directors at the time of determination. The Board considers factors such as the Company’s current and expected future results of operations, current market conditions and the values of other similar companies.
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Software Development Costs |
The Company capitalizes software development costs under the provisions of either Statement of Position 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use” (“SOP 98-1”) or Statement of Financial Accounting Standards (“SFAS”) 86, “Computer Software to be Sold, Leased, or Otherwise Marketed” (“SFAS 86”), based on the intended use of the software.
Research and development costs are charged to expense when incurred. Additionally, the Company capitalizes acquired and developed technologies that meet the provisions of SFAS 86. The establishment of technological feasibility and the ongoing assessment of the recoverability of these costs require considerable judgment by management with respect to certain external factors, including, but not limited to, anticipated future gross product revenues, estimated economic product lives and changes in software and hardware technology. Software development costs are amortized on a straight-line basis over four years or the expected life of the product, whichever is less. The Company periodically evaluates the net realizable value of capitalized software development costs based on factors such as budgeted sales, product development cycles and management’s market emphasis.
The Company capitalizes the costs of acquiring, developing and testing software to meet the Company’s internal needs. Under the provisions of SOP 98-1, the Company capitalizes costs associated with software developed or obtained for internal use when both the preliminary project stage is completed and management has authorized further funding for the project which it deems probable will be completed and used to perform the function intended. Capitalized costs include only (1) external direct costs of materials and services consumed in developing or obtaining internal-use software, (2) payroll and payroll-related costs for employees who are directly associated with and devote time to the internal-use software project and (3) interest costs incurred while developing internal-use software. Capitalization of such costs ceases no later than the point at which the project is substantially complete and ready for its intended use. Internal use software development costs are amortized using the straight-line method over a two to five-year period.
Valuation of Deferred Tax Assets |
The Company is not currently recognizing income and due to its lack of historical earnings has determined it is not likely to realize the benefit of its net deferred tax assets, and accordingly, records a 100% valuation reserve against its net deferred tax assets, exclusive of deferred tax liabilities that cannot be offset. To the extent the Company recognizes income in future years, the tax provision will reflect the realization of such benefits, with the exception of benefits attributable to acquired deferred tax assets. The recognition of such amount in future years will be allocated to reduce the excess of the purchase price over the net assets acquired and other non-current intangible assets.
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Contractual Obligations and Commercial Commitments |
The Company’s contractual obligations and commercial commitments as of December 31, 2004 are as follows:
Contractual Obligations |
Contractual Obligations |
Total | Less than 1 year |
2-3 years | 4-5 years | After 5 years |
|||||||||||
Lines of Credit |
$ | — | $ | — | $ | — | $ | — | $ | — | ||||||
Second Lien Credit Facility |
145,000 | — | — | 145,000 | — | |||||||||||
Average Interest Rate |
6.76% (A) | |||||||||||||||
Senior Subordinated Notes |
152,000 | — | — | 152,000 | — | |||||||||||
Average Interest Rate |
12.75 | % | ||||||||||||||
Operating Leases |
30,511 | 6,022 | 9,917 | 4,731 | 9,841 | |||||||||||
Employment Obligations |
6,936 | 4,907 | 2,029 | — | — | |||||||||||
Other Long-Term Obligations |
165,405 | — | — | — | 165,405 | |||||||||||
Total Contractual |
||||||||||||||||
Cash Obligations |
$ | 499,852 | $ | 10,929 | $ | 11,946 | $ | 301,731 | $ | 175,246 | ||||||
(A) Interest rate through April 29, 2005. |
Commercial Commitments |
Other |
Total | Amount of Commitment Expiration Per Period |
||||||||||||||
Commercial |
Amounts | Less than | After | |||||||||||||
Commitments |
Committed | 1 year | 2-3 years | 4-5 years | 5 years | |||||||||||
Lines of Credit |
$ | 27,925 | $ | — | $ | 27,925 | $ | — | $ | — | ||||||
Standby Letters Of Credit |
2,075 | — | 2,075 | — | — | |||||||||||
Total Contractual |
||||||||||||||||
Cash Obligations |
$ | 30,000 | $ | — | $ | 30,000 | $ | — | $ | — | ||||||
On March 29, 2004, the Company refinanced all of its term loans under its Senior Bank Credit Facilities (“the First-Lien Facility”) with a $145,000 senior, second-priority lien secured financing that was provided to the Company pursuant to a term loan facility (the “Second-Lien Facility”). The proceeds of the Second Lien Facility were used (i) to refinance in full all term loans outstanding under the First-Lien Facility, (ii) to pay fees and expenses related to the Second-Lien Facility and all transactions contemplated in connection therewith and (iii) for general corporate purposes of the Company.
All payment obligations under the Second-Lien Facility are secured by a second-priority lien on the collateral securing the First-Lien Facility; provided that all obligations under the Second-Lien Facility will rank equally in right of payment with all payment obligations under the First-Lien Facility and will not otherwise be subordinated in any respect to the First-Lien Facility. The Second-Lien Facility has a maturity of March 29, 2009.
In connection with entering into the Second-Lien Facility, we entered into an amendment and restatement of our First-Lien Facility, which now consists solely of a $30,000 revolving credit facility. The First-Lien Facility, as amended and restated, has a maturity of December 29, 2008.
Revenues |
For the year ended December 31, 2004, WRC Media and its subsidiaries had net revenue of $209.5 million. On a separate company basis, for the year ended December 31, 2004, Weekly Reader (excluding American Guidance and World Almanac) had net revenue of $45.7 million, American Guidance had net
30
revenue of $70.8 million, World Almanac had net revenue of $45.4 million, and Compass/ChildU had net revenue of $47.6 million.
The Weekly Reader Corporation’s revenues are derived from the Weekly Reader operations, as well as from the operations of American Guidance and World Almanac. Weekly Reader, not including American Guidance or World Almanac, derives revenues from four primary sources: periodicals; skills books; licensing and sponsored instructional materials published by its Consumer and Custom Publishing group. Weekly Reader’s periodicals are sold as subscriptions, the great majority of which are for periods of twelve months or less, with a significant amount of each year’s revenues coming from subscription renewals. The Consumer and Custom Publishing group sponsored supplemental educational materials are paid for by corporate, trade associations or not-for-profit sponsors and are distributed for free primarily to K-12 students.
American Guidance derives revenues from two product lines: testing and assessment products; and core-curriculum and supplemental instructional materials. Testing and assessment products are typically sold in kits containing the test, test record forms, easels used to administer the test, scoring sheets and a manual describing the proper use of the test. Each test uses a different test record form, which typically come in packages of 25 and must be purchased from American Guidance for as long as the school uses the test. Some tests are used for over 15 years. American Guidance’s core-curriculum supplemental instructional materials are sold primarily to middle and secondary schools.
World Almanac derives revenues primarily from the sale of its reference and informational materials, including: printed products and electronic databases; nonfiction and fiction books; and the distribution of third-party products targeted for K-12 students.
Weekly Reader’s subscriptions are recorded as deferred revenue when received and recognized as income over the term of the subscription, whereas sales of its other products, including sponsored instructional materials, skills books, tests and other supplemental instructional materials, are recognized as revenue upon shipment, net of an allowance for returns.
Compass/ChildU’s revenues are derived from its software products, professional development services, technical support services, and hardware sales.
Software products consist of electronic courseware, management system and assessment tools derived on a school’s platform of choice including LAN, WAN and Internet access.
Professional development services generally consist of a specific number of days of training. Technical support service contracts are typically for one-year periods and are provided at varying levels, from telephone help-line services to priority systems engineer dispatching. Compass/ChildU’s electronic courseware customers purchase, on average, six days of professional development services and a one-year technical support contract for help-line and systems engineer services in connection with their software purchases. These service contracts are frequently renewed before the expiration of the initial service period, with approximately 66% of technical support and approximately 11% of professional development contract dollars for the year ended December 31, 2004 coming from renewal contracts.
Professional development services revenue is recognized as the services are performed and technical support services revenue is recognized ratably over the related contract.
Compass/ChildU’s hardware revenues are generally derived from reselling hardware to customers who request that Compass/ChildU provide a package of software and hardware. Currently, Compass/ChildU is a reseller for Apple, Gateway and Dell computers in order to accommodate requests by customers for complete hardware and software solutions. Revenues from sales of hardware are typically recognized upon shipment.
Operating Costs and Expenses |
For Weekly Reader, operating costs and expenses are comprised primarily of cost of goods sold; sales and marketing; distribution, circulation and fulfillment; editorial; general and administrative expenses; corporate overhead costs; and depreciation and amortization.
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Weekly Reader’s cost of goods sold for its products consist primarily of paper, printing, binding costs, freight and royalty costs.
Sales and marketing expenses are typically for employees and direct marketing costs including postage, paper, printing, advertising, mailing list rental fees, and telemarketing costs.
Distribution, circulation and fulfillment expenses are typically for postage, internal and third-party fulfillment, warehousing, shipping, and customer service.
Weekly Reader’s editorial costs consist of expenses incurred for employees as well as third-party contractors, such as development houses and freelancers, net of capitalization.
General and administrative expenses consist primarily of salaries and fringe benefits for executives as well as for finance, information technology, purchasing, facilities and human resources employees and related departmental costs; information technology expenses, other than salaries; and real estate expenses. General and administrative expenses also include corporate overhead expense including costs for: amounts allocated as corporate overhead by WRC Media for services and administrative functions shared with WRC Media’s other operating companies, including, but not limited to, executive management costs, real estate expenses, and third-party costs.
Compass/ChildU’s operating costs and expenses consist primarily of cost of products sold; sales and marketing; research and development; and general and administrative expenses.
Sales and marketing expenses are the largest component of operating costs and expenses and consist primarily of direct sales force expenses, primarily compensation, sales commissions and travel and entertainment as well as expenses for promotional activities.
Cost of products sold consist primarily of: production and packaging costs and royalty expenses; salaries and related costs of employees providing professional development services and technical support services for Compass/ChildU’s services business; amortization of capitalized development costs, and the cost to Compass/ChildU to purchase the hardware for resale, as well as the internal cost to support this line of business.
Research and development costs consist primarily of salaries and related costs of employees, as well as temporary staff hired as needed. Beginning in 2002, certain software development costs related to the Compass/ChildU developed CompassLearning Odyssey on-line software product were capitalized. For the year ended December 31, 2004 capitalized software development costs associated with the CompassLearning Odyssey on-line software product approximated $5.4 million.
Consolidated Results of Operations For the Year Ended December 31, 2004 — WRC Media Inc. and Subsidiaries |
The results of operations of WRC Media and its subsidiaries encompass the operations of the Weekly Reader Corporation, including Weekly Reader, AGS and World Almanac CompassLearning, and ChildU, Inc. (“ChildU”). The results of operations of WRC Media and its subsidiaries should be read together with the separate discussion of the results of operations of the Weekly Reader Corporation.
In analyzing WRC Media’s results for the years ended December 31, 2002, 2003 and 2004, the seasonal nature of WRC Media’s business should be considered. As a result of seasonality, approximately 20% of WRC Media’s publication and related service revenues usually occur in its first quarter, 20% in its second quarter, and 60% in the third and fourth quarters combined. However, unlike this revenue stream, many of WRC Media’s expenses are incurred evenly throughout the year.
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WRC Media analyzes its revenues, expenses and operating results on a percentage of net revenue basis. The following table sets forth, for the periods indicated, consolidated statements of operations data for WRC Media and its subsidiaries, expressed in millions of dollars and as a percentage of net revenue.
| Year Ended December 31, |
|||||||||||||
| 2003 |
2004 |
||||||||||||
| Amount | % of Net Revenue | Amount | % of Net Revenue | ||||||||||
| (Dollars in millions) | |||||||||||||
Revenue, net |
$ | 202.7 | 100.0 | % | $ | 209.5 | 100.0 | % | |||||
Cost of goods sold |
56.4 | 27.8 | % | 58.8 | 28.1 | % | |||||||
Gross profit |
146.3 | 72.2 | % | 150.7 | 71.9 | % | |||||||
Costs and expenses: |
|||||||||||||
Sales and marketing |
47.2 | 23.3 | % | 52.4 | 25.0 | % | |||||||
Research and development |
1.4 | 0.7 | % | 1.8 | 0.9 | % | |||||||
Distribution, circulation and fulfillment |
14.6 | 7.2 | % | 14.9 | 7.1 | % | |||||||
Editorial |
10.4 | 5.1 | % | 10.8 | 5.2 | % | |||||||
General and administrative |
25.4 | 12.5 | % | 29.6 | 14.1 | % | |||||||
Restructuring costs and other non-recurring expenses |
1.0 | 0.5 | % | 1.5 | 0.7 | % | |||||||
Depreciation |
2.3 | 1.1 | % | 1.8 | 0.9 | % | |||||||
Amortization of intangible assets |
17.5 | 8.6 | % | 16.4 | 7.8 | % | |||||||
Impairment of goodwill and intangible assets |
— | 0.0 | % | 37.4 | 17.9 | % | |||||||
Total costs and expenses |
119.8 | 59.1 | % | 166.6 | 79.5 | % | |||||||
Income from operations |
26.5 | 13.1 | % | (15.9 | ) | (7.6 | %) | ||||||
Interest expense, including amortization of deferred financing costs |
(29.3 | ) | (14.5 | %) | (56.6 | ) | (27.0 | %) | |||||
Loss on investment |
— | 0.0 | % | — | 0.0 | % | |||||||
Other income (expense), net |
(1.5 | ) | (0.7 | %) | (1.0 | ) | (0.5 | %) | |||||
Loss before income tax provision |
(4.3 | ) | (2.1 | %) | (73.5 | ) | (35.1 | %) | |||||
Income tax provision |
3.1 | 1.6 | % | (2.1 | ) | (1.0 | %) | ||||||
Net loss |
$ | (7.4) | (3.7 | %) | $ | (71.4) | (34.1 | %) | |||||
Adjusted EBITDA (a) |
$ | 48.6 | 24.0 | % | $ | 42.9 | 20.5 | % | |||||
| (a) | Adjusted EBITDA represents earnings before interest expense, taxes, depreciation, amortization and other (income) charges including restructuring costs and other non-recurring expenses of $1.0 million for the year ended December 31, 2003 and restructuring costs of $1.5 million
for the year ended December 31, 2004 and an impairment charge of $37.4 million in 2004. Adjusted EBITDA data is a non-GAAP measure and is included in our discussion because we believe that this information may be considered by investors as an additional basis on which to
evaluate WRC Media’s performance. Because all companies do not calculate Adjusted EBITDA identically, the presentation of Adjusted EBITDA in this report is not necessarily comparable to similarly titled measures of other companies. Adjusted EBITDA is not intended to
represent cash flow from operating activities and should not be considered an alternative to net income or loss (as determined in conformity with GAAP) as an indicator of our operating performance or to cash flow as a measure of liquidity. It is presented herein as we use it, in
addition to operating income, to evaluate and measure each business unit’s performance based on their Adjusted EBITDA results. We also use Adjusted EBITDA to evaluate management performance. Adjusted EBITDA may not be available for our discretionary use as there are
requirements to repay debt, among other payments. |
33
Year Ended December 31, 2004 Compared to Year Ended December 31, 2003 |
Revenue, net. For the year ended December 31, 2004, net revenue increased $6.8 million, or 3.4%, to $209.5 million from $202.7 million in 2003. This increase was primarily due to a increase in net revenue at the Weekly Reader Corporation of $9.8 million, or 6.4%, to $161.9 million from $152.1 million in 2003 partially offset by a decrease in net revenue at Compass/ChildU of $3.0 million, or 5.9%, to $47.6 million from $50.6 million in 2003.
The increase in net revenue at the Weekly Reader Corporation was due to (1) an increase in net revenue at AGS of $14.2 million or 25.1% to $70.8 million from $56.6 million in 2003 as Assessment and Curriculum revenue increased by $11.0 million and $3.2 million, respectively, over 2003 driven by new product releases and an improved funding environment in the testing and assessment segment driven by the Federal No Child Left Behind Act (the “NCLB Act”). The increase at AGS was partially offset by (2) a decrease in net revenue at Weekly Reader, excluding World Almanac and AGS, of $0.6 million, or 1.3%, to $45.7 million from $46.3 million in 2003 primarily due to a decrease in net revenue in the Consumer and Custom Publishing segment as a result of fewer shipments of custom publishing projects and lower licensing revenue and (3) a decrease in net revenue at World Almanac of $3.8 million or 7.7% to $45.4 million from $49.2 million in 2003 due to lower net revenue at WAE Library Services due to lower catalog sales reflecting the unfavorable funding environment and lower net revenue at Gareth Stevens as a result of a decrease in telesales partially offset by an increase in sales from its wholesale channel.
The revenue decrease at Compass/ChildU was primarily due to a decrease in educational software revenue of $3.9 million. The software decline was primarily attributable to delayed purchasing decisions resulting from the weak education funding environment. With the increasing course content of the CompassLearning Odyssey internet-based product, fewer customers are purchasing our classic product. In addition, the K-12 funding environment continues to be impacted by state budget deficits, which have been causing reductions in state and local educational spending, including spending for teachers, training and supplemental educational materials. While we believe WRC Media will benefit from the provisions in the NCLB Act, most of the increase in Federal educational funding for the 2003-2004 school year was offset by lower state and local education funding for the same period.
Gross profit. For the year ended December 31, 2004, gross profit increased by $4.4 million or 3.0%, to $150.7 million from $146.3 million in 2003. Gross profit at the Weekly Reader Corporation increased $8.1 million or 7.1% to $122.5 million from $114.4 million from the same period in 2003 as a result of an increase in gross profit at AGS of $11.2 million from 2003 driven by the volume increase described above partially offset by a decrease in gross profit at World Almanac of $2.9 million from 2003 due primarily to the volume decrease described above.
The increase in gross profit at the Weekly Reader Corporation was partially offset by a decrease in gross profit of $3.8 million at Compass/ChildU from 2003 resulting from fixed costs of sales components applied to a lower revenue base and a low margin services sale. WRC Media’s gross profit as a percentage of revenue decreased slightly to 71.9% from 72.2% from 2003 due to the factors discussed above.
Costs and expenses. For the year ended December 31, 2004, operating costs and expenses increased by $46.8 million, or 39.1%, to $166.6 million from $119.8 million from 2003. Costs and expenses as a percentage of net revenue increased to 79.5% from 59.1% from 2003. This increase was primarily the result of: (i) impairment of goodwill and intangible assets of $37.4 million attributable to World Almanac, (ii) higher sales and marketing expenses of $5.2 million or 11.0% primarily attributable to AGS consisting of $3.8 million resulting from increases in sales bonuses and commissions attributable to the increase in revenue, increases in the number of sales representatives, and increases in the distribution of complimentary new product samples to prospective customers over 2003. There was also an increase in sales and marketing costs of $1.5 million at Weekly Reader, excluding AGS and World Almanac, primarily due to an increase in new customer acquisition charges; and (iii) $4.2 million or 16.5% increase in general and administrative expenses primarily due to increases in legal, audit, tax and consulting professional fees primarily related to the previously disclosed SEC inquiry and the re-audit of our 2001 financial statements.
34
Interest expense, including amortization of deferred financing costs. For the year ended December 31, 2004, interest expense, including amortization of deferred financing costs, increased by $27.3 million, or 93.2%, to $56.6 million from $29.3 million in 2003 as the adoption of SFAS 150 requires dividends and accretion on the 15% Senior Preferred Stock to be recorded as interest expense in the statement of operations for all periods starting January 1, 2004. The dividends and accretion on the 15% Senior Preferred Stock for the year ended December 31, 2004 increased interest expense by $22.0 million and $1.0 million, respectively. In addition, deferred financing fees of $1.9 million attributable to the First-Lien Credit Facility that was refinanced in part by the Second-Lien Credit Facility, which closed on March 29, 2004 were written off in the first quarter of 2004. Interest expense on long term-debt increased by $2.3 million primarily due to higher interest rates and higher loan balances in 2004 as compared to 2003. Interest expense as a percentage of net revenue increased to 27.0% from 14.5% from 2003.
Income tax provision (benefit). For the year ended December 31, 2004, the provision for income taxes decreased by $5.2 million or 167.7% to an income tax benefit of $2.1 million from a provision for income taxes of $3.1 million in 2003. The Company recorded non- cash deferred income tax expense of $2.9 million in 2003 related to tax amortization of goodwill and indefinite lived assets that will not reverse prior to the expiration period of the Company’s temporary differences. The company recorded an income tax benefit of $2.5 million for the year ended December 31, 2004, primarily resulting from the impairment of certain assets which reduced the deferred tax liability as of December 31, 2004.
Adjusted EBITDA. For the year ended December 31, 2004, Adjusted EBITDA decreased $5.7 million, or 11.7%, to $42.9 million from $48.6 million for the same period in 2003. This decrease was primarily attributable to the factors described above. Adjusted EBITDA represents (loss) before interest expense, taxes, depreciation, amortization and other (income) charges including restructuring costs of $1.5 million for the year ended December 31, 2004 and restructuring costs and other non-recurring expenses of $1.0 million for the year ended December 31, 2003 and the goodwill impairment charge of $37.4 million in 2004. Adjusted EBITDA is a non-GAAP measure and is included in our discussion because we believe that this information may be considered by investors as an additional basis on which to evaluate WRC Media’s performance. Because all companies do not calculate Adjusted EBITDA identically, the presentation of Adjusted EBITDA in this report is not necessarily comparable to similarly titled measures of other companies. Adjusted EBITDA is not intended to represent cash flow from operating activities and should not be considered an alternative to net income or loss (as determined in conformity with GAAP) as an indicator of our operating performance or to cash flow as a measure of liquidity. It is presented herein as we use it, in addition to operating income, to evaluate and measure each business unit’s performance. We also useAdjusted EBITDA to evaluate management performance. Adjusted EBITDA may not be available for our discretionary use as there are requirements to repay debt, among other payments. The reconciliation of Adjusted EBITDA to Net loss is as follows:
| Year ended December 31, |
|||||||
| 2003 | 2004 | ||||||
| (Dollars in millions) | |||||||
Adjusted EBITDA reconciliation to Net Loss |
|||||||
Net Loss |
$ | (7.4) | $ | (71.4) | |||
Non-cash expenses |
0.3 | — | |||||
Depreciation and amortization of intangibles(a) |
22.3 | 20.9 | |||||
Impairment of goodwill and intangible assets |
— | 37.4 | |||||
Income taxes |
3.1 | (2.1 | ) | ||||
Interest expense |
29.3 | 56.6 | |||||
Restructuring costs |
0.8 | 1.5 | |||||
Non-recurring expenses |
0.2 | — | |||||
Adjusted EBITDA |
$ | 48.6 | $ | 42.9 | |||
| (a) | Amount includes amortization of capitalized software costs of $2.5 and $2.7 for 2003 and 2004, respectively which are included in costs of sales in the consolidated statements of operations. |
35
Results of Operations For the Year Ended December 31, 2004 — WRC Media Inc. and Subsidiaries — Segments |
Weekly Reader |
| Year Ended December 31, |
|||||||
| 2003 | 2004 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 46.3 | $ | 45.7 | |||
Income from operations |
9.0 | 6.7 | |||||
Percentage of net revenue |
19.4 | % | 14.7 | % | |||
Revenue, net. For the year ended December 31, 2004, net revenue at the Weekly Reader segment decreased by $0.6 million, or 1.3%, to $45.7 million from $46.3 million for the same period in 2003 as a result of a decrease in periodical revenue of $0.6 million due to the shifting of issues from 2004 to 2005 and lower spring circulation revenue, a decrease in revenue of $0.6 million at Consumer and Custom Publishing group as a result of fewer shipments of custom publishing projects, and lower licensing revenue. These decreases were partially offset by higher Skill Books revenue of $1.0 million from election book sales. The election books are published every four years in connection with the presidential election cycle.
Income (loss) from operations. For the year ended December 31, 2004,segmentincome from operations decreased by $2.3 million or 25.6% to $6.7 million from $9.0 million as gross profit decreased by $0.2 million as a result of the volume decreases described above, partially offset by a favorable sales mix. Sales and marketing costs increased by $1.5 million from the same period in 2003 primarily due to an increase in new customer acquisition charges. Editorial costs increased by $0.4 million from the same period in 2003 due to greater new supplemental product development costs. General and administrative expense increased by $0.4 million from the same period in 2003 primarily due to higher employee separation and other compensation costs. These increases were partially offset by a decrease in distribution, circulation and fulfillment expenses.
AGS |
| Year Ended December 31, |
|||||||
| 2003 | 2004 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 56.6 | $ | 70.8 | |||
Income from operations |
14.2 | 20.5 | |||||
Percentage of net revenue |
25.1 | % | 29.0 | % | |||
Revenue, net. For the year ended December 31, 2004, net revenue at the AGS segment increased by $14.2 million or 25.1% to $70.8 million from $56.6 million in 2003. AGS Assessment net revenue increased by $11.0 million from 2003 as a result of the continued acceptance of new product releases and net curriculum revenue increased $3.2 million over 2003 driven by sales of revised textbooks.
Income from operations. For the year ended December 31, 2004, segment income from operations increased by $6.3 million or 44.4% to $20.5 million from $14.2 million in 2003 as gross profit increased by $11.2 million as a result of the volume increase described above. The increase in gross profit was partially offset by increases in sales and marketing expense of $3.8 million and general and administrative expense of $0.6 million from 2003. The increase in sales and marketing expenses resulted from increases in sales bonuses and commissions attributable to the increase in revenue, increases in the number of sales representatives, and increases in the distribution of complimentary new product samples to prospective customers from 2003. The increase in general and administrative expense was due to increases in professional fees for consulting and recruiting of $0.4 million, as well as higher occupancy costs.
36
Compass/ChildU |
| Year Ended December 31, |
|||||||
| 2003 | 2004 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 50.6 | $ | 47.6 | |||
Loss from operations |
(1.2 | ) | (6.5 | ) | |||
Percentage of net revenue |
(2.4 | %) | (13.7 | %) | |||
Revenue, net. For the year ended December 31, 2004, net revenue at the Compass/ChildU segment decreased by $3.0 million or 5.9% to $47.6 million from $50.6 million for the same period in 2003. This decrease was primarily due to a decrease in software revenue of $3.9 million and a decrease in technical support revenue of $0.6 million from 2003 partially offset by an increase in service revenue from professional development of $1.1 million from 2003. The software decline was primarily attributable to lower sales of the classic software product, as well as delayed purchasing decisions resulting from the weak education funding environment.
Loss from operations. For the year ended December 31, 2004, segment loss from operations increased by $5.3 million or 441.7% to $6.5 million from $1.2 million in 2003 as gross profit decreased by $3.7 million as a result of the volume decrease described above and as the fixed costs of sales components were applied to a lower software revenue base and also as a result of a low margin professional services sale. In addition, general and administrative expense increased $1.2 million primarily due to professional fees incurred as a result of the previously disclosed SEC inquiry and restructuring costs increased by $0.5 million from 2003 as a result of updated sub-lease assumptions. These increases were partially offset by a decrease in amortization of intangible assets of $0.4 million due to certain intangible assets becoming fully amortized at the end of 2003.
World Almanac |
| Year Ended December 31, |
|||||||
| 2003 | 2004 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 49.2 | $ | 45.4 | |||
Impairment of goodwill and intangibles |
— | 37.4 | |||||
Income (loss) from operations |
7.4 | (32.9 | ) | ||||
Percentage of net revenue |
15.0 | % | (72.5 | %) | |||
Revenue, net. For the year ended December 31, 2004, net revenue at the World Almanac segment decreased by $3.8 million or 7.7% to $45.4 million from $49.2 million for the same period in 2003. This decrease was primarily due to lower net revenue of $1.3 million at WAE Library Services due to lower catalog sales reflecting the unfavorable funding environment, and lower net revenue of $1.1 million at Gareth Stevens due to a decrease of $2.1 million in its telesales channel, also negatively impacted by the unfavorable funding environment, partially offset by an increase of $0.9 million at its wholesale channel from increased volume.
Income (loss) from operations. For the year ended December 31, 2004, segment income (loss) from operations decreased by $40.3 million or (544.6)% to a loss of $32.9 million from income of $7.4 million primarily due to an impairment charge of $37.4 million recorded by WRC Media. This charge was recorded based upon the Company’s assessment of the current trends and competitive environment in which the World Almanac’s businesses operate. Gross profit decreased by $2.9 million as a result of the volume decrease described above, a write-off of inventory at WA Books in the first quarter of 2004 and the impact of a discount offer at WAE Library Services that was not in effect during the same period in 2003.
37
Consolidated Results of Operations For the Year Ended December 31, 2003 — WRC Media Inc. and Subsidiaries |
| Year Ended December 31, |
|||||||||||||
| 2002 |
2003 |
||||||||||||
| Amount | % of Net Revenue | Amount | % of Net Revenue | ||||||||||
| (Dollars in millions) | |||||||||||||
Revenue, net |
$ | 207.9 | 100.0 | % | $ | 202.7 | 100.0 | % | |||||
Cost of goods sold |
60.0 | 28.9 | % | 56.4 | 27.8 | % | |||||||
Gross profit |
147.9 | 71.1 | % | 146.3 | 72.2 | % | |||||||
Costs and expenses: |
|||||||||||||
Sales and marketing |
48.6 | 23.4 | % | 47.2 | 23.3 | % | |||||||
Research and development |
1.7 | 0.8 | % | 1.4 | 0.7 | % | |||||||
Distribution, circulation and fulfillment |
14.0 | 6.7 | % | 14.6 | 7.2 | % | |||||||
Editorial |
10.9 | 5.2 | % | 10.4 | 5.1 | % | |||||||
General and administrative |
25.9 | 12.5 | % | 25.4 | 12.5 | % | |||||||
Restructuring costs and other non-recurring expenses |
8.6 | 4.2 | % | 1.0 | 0.5 | % | |||||||
Depreciation |
3.1 | 1.6 | % | 2.3 | 1.1 | % | |||||||
Amortization of intangible assets |
16.6 | 8.0 | % | 17.5 | 8.6 | % | |||||||
Total costs and expenses |
129.4 | 62.2 | % | 119.8 | 59.1 | % | |||||||
Income from operations |
18.5 | 8.9 | % | 26.5 | 13.1 | % | |||||||
Interest expense, including amortization of deferred financing costs |
(30.0 | ) | (14.4 | %) | (29.3 | ) | (14.5 | %) | |||||
Loss on investment |
(3.1 | ) | (1.5 | %) | — | 0.0 | % | ||||||
Other income (expense), net |
0.7 | 0.3 | % | (1.5 | ) | (0.7 | %) | ||||||
Loss before income tax provision |
(13.9 | ) | (6.7 | %) | (4.3 | ) | (2.1 | %) | |||||
Income tax provision |
8.2 | 3.9 | % | 3.1 | 1.6 | % | |||||||
Net loss |
$ | (22.1) | (10.6 | %) | $ | (7.4) | (3.7 | %) | |||||
Adjusted EBITDA (a) |
$ | 46.7 | 22.5 | % | $ | 48.6 | 24.0 | % | |||||
| (a) | Adjusted EBITDA represents (loss) before interest expense, taxes, depreciation, amortization and other (income) charges including restructuring costs of $8.6 million for the year ended December 31, 2002 and restructuring costs and other non-recurring expenses of $1.0 million
for the year ended December 31, 2003. Adjusted EBITDA data is a non-GAAP measure and is included in our discussion because we believe that this information may be considered by investors as an additional basis on which to evaluate WRC Media’s performance. Because all
companies do not calculate Adjusted EBITDA identically, the presentation of Adjusted EBITDA in this report is not necessarily comparable to similarly titled measures of other companies. Adjusted EBITDA is not intended to represent cash flow from operating activities and
should not be considered an alternative to net income or loss (as determined in conformity with GAAP) as an indicator of our operating performance or to cash flow as a measure of liquidity. It is presented herein as we use it, in addition to operating income, to evaluate and
measure each business unit’s performance based on their Adjusted EBITDA results. We also use Adjusted EBITDA to evaluate management performance. Adjusted EBITDA may not be available for our discretionary use as there are requirements to repay debt, among other
payments. |
Year Ended December 31, 2003 Compared to Year Ended December 31, 2002 |
Revenue, net. For the year ended December 31, 2003, net revenue decreased $5.2 million, or 2.5%, to $202.7 million from $207.9 million in 2002. This decrease was due to a decrease in net revenue at the Weekly Reader Corporation of $2.9 million, or 1.9%, to $152.1 million from $155.0 million in 2002
38
combined with a decrease in net revenue at Compass/ChildU of $2.3 million, or 4.3%, to $50.6 million from $52.9 million in 2002.
The decrease in net revenue at the Weekly Reader Corporation was primarily due to (1) a decrease in net revenue at World Almanac of $3.1 million, or 5.9% to $49.2 million from $52.3 million in 2002; (2) a decrease in net revenue at AGS of $1.3 million, or 2.2%, to $56.6 from $57.9 million in 2002. The decreases in revenue at World Almanac and AGS were partially offset by (3) an increase in net revenue at Weekly Reader, excluding World Almanac and AGS, of $1.5 million, or 3.3%, to $46.3 million from $44.8 million in 2002.
The decrease at Compass/ChildU from 2002 was primarily due to a decrease in technical support revenue of $1.0 million, a decrease in service revenue from professional development of $0.7 million and a decrease in hardware sales of $0.5 million.
The K-12 funding environment was impacted by growing state budget deficits, which caused reductions in state and local educational spending, including spending on supplemental educational materials. While we believe WRC Media will benefit from the provisions in the Federal No Child Left Behind Act (the “NCLB Act”), most of the increase in Federal educational funding in 2003 was offset by lower state and local education funding in 2003.
Gross profit. For the year ended December 31, 2003, gross profit decreased by $1.6 million or 1.1%, to $146.3 million from $147.9 million in 2002. This decrease was due to the revenue decrease discussed above. Gross profit at the Weekly Reader Corporation decreased $2.0 million or 1.7% to $114.4 million for the year ended December 31, 2003 from $116.4 million in 2002 primarily as a result of (1) a decrease in gross profit at World Almanac of $2.4 million from 2002 driven by the volume decrease described above; (2) a decrease in gross profit at AGS of $0.6 million from 2002 driven by the AGS volume decrease described above partially offset by (3) an increase in gross profit at Weekly Reader, excluding AGS and World Almanac of $1.0 million from 2002. Gross profit as a percent of revenue decreased slightly at Weekly Reader, excluding World Almanac and AGS, to 81.0% in 2003 for 81.5% in 2002. At Compass/ChildU gross profit increased $0.4 million. WRC Media consolidated gross profit as a percent of revenue increased slightly to 72.2% for the year ended December 31, 2003 from 71.1% in 2002 mainly due to the change in sales mix discussed above.
Costs and expenses. For the year ended December 31, 2003, operating costs and expenses decreased by $9.6 million, or 7.4%, to $119.8 million from $129.4 million in 2002. Costs and expenses as a percentage of net revenue decreased to 59.1% from 62.2% in 2002. The decrease was attributable to: (i) $7.6 million or 88.4% decrease in restructuring and other non-recurring charges; (ii) lower sales and marketing expense of $1.4 million or 2.9% due in part to the lower revenue discussed above resulting in lower variable sales and marketing expenses such as sales commissions; (iii) lower depreciation of $0.8 million and (iv) lower general and administrative expenses of $0.5 million. The decrease in general and administrative expenses was primarily due to a reduction of rent expense of $0.7 million resulting from consolidation of facilities and a $2.4 million reduction of fixed overhead costs, primarily compensation costs, offset by an employee severance cost of $1.5 million for a senior executive, higher professional fees of $0.9 million primarily related to legal matters, an SEC inquiry and increased audit fees and higher recruiting fees of $0.5 million related to personnel changes. These decreases were partially offset by higher amortization of intangibles of $0.9 million.
Interest expense, including amortization of deferred financing costs. For the year ended December 31, 2003, interest expense decreased by $0.7 million, or 2.3%, to $29.3 million from $30.0 million in 2002 and interest expense as a percentage of net revenue increased slightly to 14.5% from 14.4% in 2002.
Loss on investments. During the year ended December 31, 2002 the Company recorded a loss on investment of $3.1 million. The loss in 2002 related to equity losses attributable to WRC Media’s minority investment in ThinkBox, Inc. There were no losses on investments during the 2003 period.
Other income (expense), net. For the year ended December 31, 2003, other income (expense), net decreased $2.2 million or 314.3% to $1.5 million expense from $0.7 income 2002. This decrease was primarily driven by a $1.7 million gain from hedging transactions in the 2002 period.
39
Income tax provision. For the year ended December 31, 2003, the provision for income taxes decreased by $5.1 million or 62.2% to an income tax provision of $3.1 million from a provision for income taxes of $8.2 million for the same period in 2002. The Company recorded non-cash deferred income tax expense of $5.2 million on January 1, 2002 and $2.7 and $2.9 million during the years ended December 31, 2002 and December 31, 2003, respectively, which would not have been required prior to the adoption of SFAS 142, “Goodwill and Other Intangible Assets”. The non-cash charge of $5.2 million on January 1, 2002 was recorded to increase the valuation allowance related to the Company’s net operating losses. As a result of the adoption of SFAS 142, book amortization will not occur during the carryforward period of the operating losses. In addition, since book amortization of tax-deductible goodwill and trademarks ceased on January 1, 2002, the Company will have deferred tax liabilities that will arise each year because the taxable temporary differences related to the amortization of these assets will not reverse prior to the expiration period of the Company’s deductible temporary differences unless the related assets are sold or an impairment of the assets is recorded.
Adjusted EBITDA. For the year ended December 31, 2003, Adjusted EBITDA increased $1.9 million, or 4.1%, to $48.6 million from $46.7 million for the same period in 2002. This increase is primarily attributable to the factors described above. Adjusted EBITDA represents (loss) before interest expense, taxes, depreciation, amortization and other (income) charges including restructuring costs of $8.6 million for the year ended December 31, 2002 and restructuring costs and other non-recurring expenses of $1.0 million for the year ended December 31, 2003. Adjusted EBITDA data is a non-GAAP measure and is included in our discussion because we believe that this information may be considered by investors as an additional basis on which to evaluate WRC Media’s performance. Because all companies do not calculate Adjusted EBITDA identically, the presentation of Adjusted EBITDA in this report is not necessarily comparable to similarly titled measures of other companies. Adjusted EBITDA is not intended to represent cash flow from operating activities and should not be considered an alternative to net income or loss (as determined in conformity with GAAP) as an indicator of our operating performance or to cash flow as a measure of liquidity. It is presented herein as we us it, in addition to operating income, to evaluate and measure each business unit’s performance based on their Adjusted EBITDA results. We also use Adjusted EBITDA to evaluate management performance. Adjusted EBITDA may not be available for our discretionary use as there are requirements to repay debt, among other payments. The reconciliation of Adjusted EBITDA to net loss is as follows:
| Year Ended December 31, |
|||||||
| 2002 | 2003 | ||||||
| (Dollars in millions) | |||||||
Adjusted EBITDA reconciliation to Net Loss |
|||||||
Net Loss |
$ | (22.1) | $ | (7.4) | |||
Non-cash expenses |
— | 0.3 | |||||
Depreciation and amortization of intangibles(a) |
21.9 | 22.3 | |||||
Income taxes |
8.2 | 3.1 | |||||
Interest expense |
30.1 | 29.3 | |||||
Restructuring costs |
8.6 | 0.8 | |||||
Non-recurring expenses |
— | 0.2 | |||||
Adjusted EBITDA |
$ | 46.7 | $ | 48.6 | |||
| (a) | Amount includes amortization of capitalized software costs of $2.2 and $2.5 for 2002 and 2003, respectively which are included in costs of sales in the consolidated statements of operations. |
40
Results of Operations For the Year Ended December 31, 2003 — WRC Media Inc. and Subsidiaries — Segments |
Weekly Reader |
| Year Ended December 31, |
|||||||
| 2002 | 2003 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 44.8 | $ | 46.3 | |||
Income from operations |
9.1 | 9.0 | |||||
Percentage of net revenue |
20.3 | % | 19.4 | % | |||
Revenue, net. For the year ended December 31, 2003, net revenue at the Weekly Reader segment increased by $1.5 million, or 3.3%, to $46.3 million from $44.8 million in 2002. This increase was primarily attributable to higher revenue at of the Consumer and Custom Publishing group of Weekly Reader as a result of increased sponsored supplemental educational material shipments of $2.5 million, increased licensing revenue of $0.5 million due to higher net revenue from the QVC Shopping Network Channel; partially offset by a decline in periodical circulation revenue of $1.5 million due to the challenging K-12 funding environment.
Income from operations. For the year ended December 31, 2003, segment income from operations decreased by $0.1 million or 1.1% to $9.0 million from $9.1 million as gross profit increased by $1.0 million as a result of the volume increases described above. The increase in gross profit was offset by an increase in expenses. Weekly Reader’s portion of corporate overhead increased by $0.6 million from 2002 primarily related to severance for a senior executive, higher professional fees due to legal matters, an SEC inquiry and increased audit fees, and higher recruiting fees related to a management change. Distribution, circulation and fulfillment and expenses increased by $0.5 million from 2002 as a result of the increased revenue from the QVC Shopping Network Channel and Consumer and Custom Publishing.
AGS
| Year Ended December 31, |
|||||||
| 2002 | 2003 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 57.9 | $ | 56.6 | |||
Income from operations |
14.0 | 14.2 | |||||
Percentage of net revenue |
24.2 | % | 25.1 | % | |||
Revenue, net. For the year ended December 31, 2003, net revenue at the AGS segment decreased by $1.3 million or 2.2% to $56.6 million from $57.9 million for the same period in 2002. Curriculum revenue decreased $2.8 million from 2002 as textbooks/workbooks revenue decreased $1.1 million from 2002 primarily due to several large one-time Literature textbook orders in 2002 that were not repeated in 2003 and current market conditions. Test Prep revenue was down $0.7 million from 2002, due to current market conditions and there was a decline in Backlist Curriculum of $1.0 million from 2002 because these older product lines have not had any recent investment in product development. This decline in Curriculum revenue was partially offset by higher Assessment revenue of $1.5 million primarily driven by an increase in GRADE (Group Reading Assessment and Diagnostic Evaluation) of $1.9 million.
Income from operations. For the year ended December 31, 2003, segment income from operations increased by $0.2 million or 1.4% to $14.2 million from $14.0 million for 2002. Expenses decreased by $0.8 million from 2002 as general and administrative expenses decreased $0.4 million primarily due to a reduction in legal fees from 2002 and a loss on disposal of assets in 2002 partially offset by an increase in AGS’s portion of corporate overhead of $0.6 million from 2002 primarily related to a severance for a senior executive, higher professional fees due to legal matters, an SEC inquiry and increased audit fees, and higher recruiting fees related to a management change. Editorial expenses decreased $0.8 million from 2002 due to the timing of spending on product development projects and restructuring charges decreased by $0.5 million from 2002 due to a reduction of severance costs. These expense reductions were partially offset by an increase in amortization of intangible assets of $1.1 million driven by an increase in amortization of
41
prepublication costs resulting from new product releases and by a decrease in gross profit of $0.6 million as a result of the volume decrease described above.
Compass/ChildU |
| Year Ended December 31, |
|||||||
| 2002 | 2003 | ||||||
(Dollars in millions) |
|||||||
Revenue, net |
$ | 52.9 | $ | 50.6 | |||
Loss from operations |
(8.8 | ) | (1.2 | ) | |||
Percentage of net revenue |
(16.6 | %) | (2.4 | %) | |||
Revenue, net. For the year ended December 31, 2003, net revenue at the Compass/ChildU segment decreased by $2.3 million or 4.3% to $50.6 million from $52.9 million for the same period in 2002. This decrease from 2002 was primarily due to a decrease in technical support revenue of $1.0 million, a decrease in service revenue from professional development of $0.7 million and a decrease in hardware sales of $0.5 million. These declines were primarily attributable to delayed purchasing decisions resulting from the weak education funding environment.
Loss from operations. For the year ended December 31, 2003, segment loss from operations decreased by $7.6 million or 86.4% to $1.2 million from $8.8 million from 2002 as gross profit increased by $0.4 million as a result of improved margins on the technical support and professional development revenue. Expenses decreased by $7.2 million from 2002. Restructuring costs decreased by $3.2 million from 2002 due to a reduction in severance costs of $1.6 million and a reduction in lease termination costs of $1.6 million, sales and marketing expenses decreased by $1.4 million from 2002 due to decreases in compensation costs and costs of outside services. General and administrative expense decreased $0.7 million from 2002 primarily due to a reduction in compensation costs of $1.5 million partially offset by an increase in Compass/ChildU’s portion of corporate overhead of $0.6 million from 2002 primarily related to severance for a senior executive, higher professional fees due to legal matters, an SEC inquiry and increased audit fees, and higher recruiting fees related to a management change. Amortization of intangible assets decreased by $1.0 million from 2002 due to certain intangible assets becoming fully amortized at the end of 2003.
World Almanac |
| Year Ended December 31, |
|||||||
| 2002 | 2003 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 52.3 | $ | 49.2 | |||
Income from operations |
11.1 | 7.4 | |||||
Percentage of net revenue |
21.2 | % | 15.0 | % | |||
Revenue, net. For the year ended December 31, 2003, net revenue at the World Almanac segment decreased by $3.1 million or 5.9% to $49.2 million from $52.3 million for the same period in 2002. This decrease was due to lower net revenue of $1.7 million at WAE Library Services and $1.3 million at Gareth Stevens, due in part to state budget deficits, which have directly impacted the catalog channel at WAE Library Services and the telemarketing and wholesale channel sales at Gareth Stevens.
Income from operations. For the year ended December 31, 2003, segment income from operations decreased by $3.7 million or 33.3% to $7.4 million from $11.1 million primarily due to a reduction in gross profit of $2.4 million as a result of the volume decrease described above. World Almanac’s portion of corporate overhead increased by $0.6 million from 2002 primarily related to severance for a senior executive, higher professional fees due to legal matters, an SEC inquiry and increased audit fees, and higher recruiting fees related to a management change. Distribution, Circulation and Fulfillment expenses increased by $0.2 million over 2002 due primarily to increased fulfillment and warehousing costs at Gareth Stevens.
42
Results of Operations For the year ended December 31, 2004 — Weekly Reader Corporation and Subsidiaries |
The following table sets forth, for the periods indicated, combined statements of operations data for Weekly Reader and its subsidiaries expressed in millions of dollars and as a percentage of net sales.
| Year Ended December 31, |
|||||||||||||
| 2003 |
2004 |
||||||||||||
| Amount | % of Net Revenue | Amount | % of Net Revenue | ||||||||||
| (Dollars in millions) | |||||||||||||
Revenue, net |
$ | 152.1 | 100.0 | % | $ | 161.9 | 100.0 | % | |||||
Cost of goods sold |
37.7 | 24.8 | % | 39.4 | 24.3 | % | |||||||
Gross profit |
114.4 | 75.2 | % | 122.5 | 75.7 | % | |||||||
Costs and expenses: |
|||||||||||||
Sales and marketing |
28.3 | 18.7 | % | 33.6 | 20.9 | % | |||||||
Distribution, circulation and fulfillment |
14.6 | 9.6 | % | 14.8 | 9.1 | % | |||||||
Editorial |
10.4 | 6.8 | % | 10.8 | 6.7 | % | |||||||
General and administrative |
19.0 | 12.5 | % | 21.7 | 13.4 | % | |||||||
Restructuring costs |
(0.5 | ) | (0.3 | %) | — | 0.0 | % | ||||||
Depreciation |
1.7 | 1.1 | % | 1.5 | 0.9 | % | |||||||
Amortization of intangible assets |
9.1 | 6.0 | % | 8.4 | 5.2 | % | |||||||
Total costs and expenses |
82.6 | 54.3 | % | 90.8 | 56.1 | % | |||||||
Income from operations |
31.8 | 20.9 | % | 31.7 | 19.6 | % | |||||||
Interest expense |
(28.1 | ) | (18.5 | %) | (52.4 | ) | (32.4 | %) | |||||
Other income (expense), net |
(0.7 | ) | (0.5 | %) | (0.8 | ) | (0.5 | %) | |||||
Income before income tax provision |
3.0 | 2.0 | % | (21.5 | ) | (13.3 | %) | ||||||
Income tax provision |
0.6 | 0.4 | % | 0.7 | 0.4 | % | |||||||
Net income (loss) |
$ | 2.4 | 1.6 | % | $ | (22.2) | (13.7 | %) | |||||
Adjusted EBITDA(a) |
$ | 41.4 | 27.2 | % | $ | 40.8 | 25.2 | % | |||||
| (a) | Adjusted EBITDA represents income before interest expense, taxes, depreciation, amortization and other (income) charges including restructuring costs of ($0.5) million for the year ended December 31, 2003. Adjusted EBITDA data is a non-GAAP measure and is included in our
discussion because we believe that this information may be considered by investors as an additional basis on which to evaluate Weekly Reader’s performance. Because all companies do not calculate Adjusted EBITDA identically, the presentation of Adjusted EBITDA in this
report is not necessarily comparable to similarly titled measures of other companies. Adjusted EBITDA is not intended to represent cash flow from operating activities and should not be considered an alternative to net income or loss (as determined in conformity with GAAP) as an
indicator of our operating performance or to cash flow as a measure of liquidity. It is presented herein as we use it, in addition to operating income, to evaluate and measure each business unit’s performance based on their Adjusted EBITDA results. We also use Adjusted EBITDA
to evaluate management performance. Adjusted EBITDA may not be available for our discretionary use as there are requirements to repay debt, among other payments. |
Year Ended December 31, 2004 Compared to Year Ended December 31, 2003 |
Revenue, net. For the year ended December 31, 2004, net revenue increased $9.8 million, or 6.4%, to $161.9 million from $152.1 million in 2003. The increase in net revenue at Weekly Reader Corporation was due to (1) an increase in net revenue at AGS of $14.2 million or 25.1% to $70.8 million from $56.6 million in 2003 as Assessment and Curriculum revenue increased by $11.0 million and $3.2 million, respectively, over 2003 driven by new product releases. The increase at AGS was partially offset by (2) a decrease in net revenue at Weekly Reader, excluding World Almanac and AGS, of $0.6 million, or 1.3%, to $45.7 million from $46.3 million in 2003 primarily due to a decrease in net revenue in the Consumer and Custom
43
Publishing segment as a result of fewer shipments of custom publishing projects and lower licensing revenue and (3) a decrease in net revenue at World Almanac of $3.8 million or 7.7% to $45.4 million from $49.2 million in 2003 due to lower net revenue at WAE Library Services due to lower catalog sales reflecting the unfavorable funding environment and lower net revenue at Gareth Stevens as a result of a decrease in telesales partially offset by an increase in sales from its wholesale channel.
Gross profit. For the year ended December 31, 2004, gross profit at Weekly Reader increased $8.1 million or 7.1% to $122.5 million from $114.4 million from 2003 primarily as a result of (1) an increase in gross profit at AGS of $11.2 million from 2003 driven by the volume increase described above. The increase at AGS was partially offset by a decrease in gross profit at World Almanac of $2.9 million from 2003 primarily due to the volume decrease described above. Gross profit as a percentage of sales increased slightly to 75.7% for the year ended December 31, 2003 from 75.2% in 2003 for Weekly Reader Corporation and Subsidiaries.
Costs and expenses. For the year ended December 31, 2004, operating costs and expenses increased by $8.2 million, or 9.9%, to $90.8 million from $82.6 million from 2003. Costs and expenses as a percentage of net revenue increased to 56.1% from 54.3% from 2003. This increase was primarily the result of: (i) higher sales and marketing expenses of $5.3 million or 18.7%, primarily attributable to AGS, consisting of $3.8 million resulting from increases in sales bonuses and commissions attributable to the increase in revenue, increases in the number of sales representatives, and increases in the distribution of complimentary new product samples to prospective customers compared to 2003. There was also an increase in sales and marketing costs of $1.5 million at Weekly Reader, excluding AGS and World Almanac, primarily due to an increase in new customer acquisition charges; (ii) a $2.7 million or 14.2% increase in general and administrative expenses primarily due to increases in legal, audit, tax and consulting professional fees primarily related to the previously disclosed SEC inquiry and the re-audit of our 2001 financial statements; (iii) a $0.5 million increase in restructuring costs due to a reduction in expense in 2003 related to adjustments for updated assumptions for lease termination costs. These higher expenses were partially offset by (iv) lower amortization of intangible assets of $0.7 million or 7.7% for 2003. This was caused by a decrease of $0.5 million at AGS as copyrights related to the Lindy Enterprises, Inc. acquisition in May 2001 becoming fully amortized as of May 2004 partially offset by an increase in pre-publication amortization resulting from new product releases in 2004.
Interest expense, including amortization of deferred financing costs. For the year ended December 31, 2004, interest expense, including amortization of deferred financing costs, increased by $24.3 million, or 86.5%, to $52.4 million from $28.1 million for 2003 as the adoption of SFAS 150 requires dividends on the 15% Senior Preferred Stock to be recorded as interest expense in the statement of operations for all periods starting January 1, 2004. The dividends on the 15% Senior Preferred Stock for the year ended December 31, 2004 increased interest expense by $22.0 million. In addition, deferred financing fees of $0.4 million attributable to the First-Lien Credit Facility that was refinanced in part by the Second-Lien Credit Facility, which closed on March 29, 2004 were written off in the first quarter of 2004. Interest expense on long term-debt increased by $2.3 million primarily due to higher interest rates and higher loan balances in 2004 as compared to 2003. Interest expense as a percentage of net revenue increased to 32.4% from 18.5% for 2003.
Adjusted EBITDA. For the year ended December 31, 2004, Adjusted EBITDA decreased $0.6 million, or 1.5%, to $40.8 million from $41.4 million in 2003. This decrease was primarily attributable to the factors described above. Adjusted EBITDA represents income (loss) before interest expense, taxes, depreciation, amortization and other (income) charges including restructuring costs adjustment of ($0.5) million for the year ended December 31, 2003. Adjusted EBITDA is a non-GAAP measure and is included in our discussion because we believe that this information may be considered by investors as an additional basis on which to evaluate Weekly Reader’s performance. Because all companies do not calculate Adjusted EBITDA identically, the presentation of Adjusted EBITDA in this report is not necessarily comparable to similarly titled measures of other companies. Adjusted EBITDA is not intended to represent cash flow from operating activities and should not be considered an alternative to net income or loss (as determined in conformity with GAAP) as an indicator of our operating performance or to cash flow as a measure of liquidity. It is presented herein as we use it, in addition to operating income, to evaluate and measure each business unit’s performance. We also useAdjusted EBITDA to evaluate management performance. Adjusted EBITDA may
44
not be available for our discretionary use as there are requirements to repay debt, among other payments. The reconciliation of Adjusted EBITDA to Net income (loss) is as follows:
| Year Ended December 31, 2003 |
|||||||
Adjusted EBITDA reconciliation to Net Income (Loss) |
2003 | 2004 | |||||
| (Dollars in millions) | |||||||
Net income (loss) |
$ | 2.4 | $ | (22.2) | |||
Depreciation and amortization of intangibles |
10.8 | 9.9 | |||||
Income taxes |
0.6 | 0.7 | |||||
Interest expense |
28.1 | 52.4 | |||||
Restructuring costs |
(0.5 | ) | — | ||||
Adjusted EBITDA |
$ | 41.4 | $ | 40.8 | |||
Results of Operations for the Year Ended December 31, 2004 — Weekly Reader Corporation and Subsidiaries – Segments |
Weekly Reader |
| Year Ended December 31, |
|||||||
| 2003 | 2004 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 46.3 | $ | 45.7 | |||
Income from operations |
9.0 | 6.7 | |||||
Percentage of net revenue |
19.4 | % | 14.7 | % | |||
Revenue, net. For the year ended December 31, 2004, net revenue at the Weekly Reader segment decreased by $0.6 million, or 1.3%, to $45.7 million from $46.3 million for the same period in 2003 as a result of a decrease in periodical revenue of $0.6 million due to the shifting of issues from 2004 to 2005 and lower spring circulation revenue, a decrease in revenue of $0.6 million at Consumer and Custom Publishing as a result of fewer shipments of custom publishing projects, and lower licensing revenue. These decreases were partially offset by higher Skill Books revenue of $1.0 million from election book sales. The election books are published every four years in connection with the presidential election cycle.
Income (loss) from operations. For the year ended December 31, 2004, segment income from operations decreased by $2.3 million or 25.6% to $6.7 million from $9.0 million as gross profit decreased by $0.2 million as a result of the volume decreases described above, partially offset by a favorable sales mix. Sales and marketing costs increased by $1.5 million from the same period in 2003 primarily due to an increase in new customer acquisition charges. Editorial costs increased by $0.4 million from the same period in 2003 due to greater new supplemental product development costs. General and administrative expense increased by $0.4 million from the same period in 2003 primarily due to higher employee separation and other compensation costs. These increases were partially offset by a decrease in distribution, circulation and fulfillment expenses.
AGS |
| Year Ended December 31, |
|||||||
| 2003 | 2004 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 56.6 | $ | 70.8 | |||
Income from operations |
14.2 | 20.5 | |||||
Percentage of net revenue |
25.1 | % | 29.0 | % | |||
Revenue, net. For the year ended December 31, 2004, net revenue at the AGS segment increased by $14.2 million or 25.1% to $70.8 million from $56.6 million in 2003. AGS Assessment net revenue increased by $11.0 million from 2003 as a result of the continued acceptance of new product releases and net curriculum revenue increased $3.2 million over 2003 driven by sales of revised textbooks.
45
Income from operations. For the year ended December 31, 2004, segment income from operations increased by $6.3 million or 44.4% to $20.5 million from $14.2 million in 2003 as gross profit increased by $11.2 million as a result of the volume increase described above. The increase in gross profit was partially offset by increases in sales and marketing expense of $3.8 million and general and administrative expense of $0.6 million from 2003. The increase in sales and marketing expenses resulted from increases in sales bonuses and commissions attributable to the increase in revenue, increases in the number of sales representatives, and increases in the distribution of complimentary new product samples to prospective customers from 2003. The increase in general and administrative expense was due to increases in professional fees for consulting and recruiting of $0.4 million, as well as higher occupancy costs.
World Almanac |
| Year Ended December 31, |
|||||||
| 2003 | 2004 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 49.2 | $ | 45.4 | |||
Income from operations |
7.4 | 4.5 | |||||
Percentage of net revenue |
15.0 | % | 9.9 | % | |||
Revenue, net. For the year ended December 31, 2004, net revenue at the World Almanac segment decreased by $3.8 million or 7.7% to $45.4 million from $49.2 million for the same period in 2003. This decrease was primarily due to lower net revenue of $1.3 million at WAE Library Services due to lower catalog sales reflecting the unfavorable funding environment, and lower net revenue of $1.1 million at Gareth Stevens due to a decrease of $2.1 million in its telesales channel, also negatively impacted by the unfavorable funding environment, partially offset by an increase of $0.9 million at its wholesale channel from increased volume.
Income from operations. For the year ended December 31, 2004, segment income from operations decreased by $2.9 million or 39.2% to $4.5 million from $7.4 million primarily due to a reduction in gross profit of $2.9 million as a result of the volume decrease described above, a write-off of inventory at WA Books in the first quarter of 2004 and the impact of a discount offer at WAE Library Services that was not in effect during the same period in 2003.
46
Results of Operations For the year ended December 31, 2003 – Weekly Reader Corporation and Subsidiaries |
The following table sets forth, for the periods indicated, combined statements of operations data for Weekly Reader and its subsidiaries expressed in millions of dollars and as a percentage of net sales.
| Year Ended December 31, |
|||||||||||||
| 2002 |
2003 |
||||||||||||
| Amount | % of Net Revenue | Amount | % of Net Revenue | ||||||||||
| (Dollars in millions) | |||||||||||||
Revenue, net |
$ | 155.0 | 100.0 | % | $ | 152.1 | 100.0 | % | |||||
Cost of goods sold |
38.6 | 24.9 | % | 37.7 | 24.8 | % | |||||||
Gross profit |
116.4 | 75.1 | % | 114.4 | 75.2 | % | |||||||
Costs and expenses: |
|||||||||||||
Sales and marketing |
28.1 | 18.1 | % | 28.3 | 18.7 | % | |||||||
Distribution, circulation and fulfillment |
14.0 | 9.0 | % | 14.6 | 9.6 | % | |||||||
Editorial |
10.9 | 7.0 | % | 10.4 | 6.8 | % | |||||||
General and administrative |
18.6 | 12.0 | % | 19.0 | 12.5 | % | |||||||
Restructuring costs |
4.3 | 2.8 | % | (0.5 | ) | (0.3 | %) | ||||||
Depreciation |
2.0 | 1.3 | % | 1.7 | 1.1 | % | |||||||
Amortization of intangible assets |
7.2 | 4.6 | % | 9.1 | 6.0 | % | |||||||
Total costs and expenses |
85.1 | 54.9 | % | 82.6 | 54.3 | % | |||||||
Income from operations |
31.3 | 20.2 | % | 31.8 | 20.9 | % | |||||||
Interest expense |
(28.9 | ) | (18.6 | %) | (28.1 | ) | (18.5 | %) | |||||
Other income (expense), net |
0.9 | 0.6 | % | (0.7 | ) | (0.5 | %) | ||||||
Income before income tax provision |
3.3 | 2.1 | % | 3.0 | 2.0 | % | |||||||
Income tax provision |
4.2 | 2.6 | % | 0.6 | 0.4 | % | |||||||
Net income (loss) |
$ | (0.9) | (0.6 | %) | $ | 2.4 | 1.6 | % | |||||
Adjusted EBITDA(a) |
$ | 45.7 | 29.5 | % | $ | 41.4 | 27.2 | % | |||||
| (b) | Adjusted EBITDA represents income before interest expense, taxes, depreciation, amortization and other (income) charges including restructuring costs of $4.3 million for the year ended December 31, 2002 and of ($0.5) million for the year ended December 31, 2003. Adjusted
EBITDA data is a non-GAAP measure and is included in our discussion because we believe that this information may be considered by investors as an additional basis on which to evaluate Weekly Reader’s performance. Because all companies do not calculate Adjusted EBITDA
identically, the presentation of Adjusted EBITDA in this report is not necessarily comparable to similarly titled measures of other companies. Adjusted EBITDA is not intended to represent cash flow from operating activities and should not be considered an alternative to net
income or loss (as determined in conformity with GAAP) as an indicator of our operating performance or to cash flow as a measure of liquidity. It is presented herein as we use it, in addition to operating income, to evaluate and measure each business unit’s performance based on
their Adjusted EBITDA results. We also use Adjusted EBITDA to evaluate management performance. Adjusted EBITDA may not be available for our discretionary use as there are requirements to repay debt, among other payments. |
Year Ended December 31, 2003 Compared to Year Ended December 31, 2002 |
Revenue, net. For the year ended December 31, 2003, net revenue decreased $2.9 million, or 1.9%, to $152.1 million from $155.0 million in 2002. The decrease in sales at Weekly Reader was primarily due to a decrease in sales at World Almanac of $3.1 million, or 5.9% to $49.2 million from $52.3 million in 2002, a decrease in sales at AGS of $1.3 million, or 2.2%, to $56.6 from $57.9 million in 2002, partially offset by an increase in sales at Weekly Reader, not including World Almanac and AGS, of $1.5 million, or 3.3%, to $46.3 million from $44.8 million in 2002.
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The K-12 funding environment continues to be impacted by growing state budget deficits, which have been causing reductions in state and local educational spending, including spending on supplemental educational materials. While we believe Weekly Reader will benefit from the provisions in the Federal No Child Left Behind Act (the “NCLB Act”), most of the increase in Federal educational funding in 2003 was offset by lower state and local education funding in 2003. These cuts and delayed purchases have negatively affected our top-line net revenue.
Gross profit. For the year ended December 31, 2003 gross profit at Weekly Reader decreased $2.0 million or 1.7% to $114.4 million from $116.4 million in 2002 primarily as a result of (1) a decrease in gross profit at World Almanac of $2.4 million from 2002 driven by the volume decrease described above;. (2) a decrease in gross profit at AGS of $0.6 million from the AGS volume decrease described above partially offset by (3) an increase in gross profit at Weekly Reader, excluding AGS and World Almanac of $1.0 million, or 2.7%, to $37.5 million from $36.5 million in 2002. Gross profit as a percentage of sales increased slightly to 75.2% for the year ended December 31, 2003 from 75.1% in 2002 for Weekly Reader Corporation and Subsidiaries.
Costs and expenses. For the year ended December 31, 2003, operating costs and expenses decreased $2.5 million, or 2.9%, to $82.6 million from $85.1 million in 2002. Cost and expenses as a percentage of net revenue decreased to 54.3% from 54.9% in 2002. This decrease in costs and expenses was primarily driven by; (i) a decrease in restructuring costs of $4.8 million or 111.6%; (ii) a decrease in editorial costs of $0.5 million or 4.6%; partially offset by (iii) a increase in general and administrative costs of $0.4 million or 2.2%; (iv) an increase in amortization of intangible assets of $1.9 million or 26.4%; and (v) an increase in distribution, circulation and fulfillment costs of $0.6 million or 4.3%. Restructuring costs decreased due to $4.3 million in expense recorded in 2002 related to the “2002 Plan of Restructuring” compared to the $0.5 million reduction in expense related to adjustments for updated assumptions for lease termination costs. The increase in general and administrative expenses primarily related to severance of $1.1 million for a senior executive, higher professional fees of $0.3 million due to legal matters, an SEC inquiry and increased audit fees, and higher recruiting fees of $0.4 million related to a management changes offset by a reduction of rent expense of $0.4 million through a consolidation of facilities and reduction of compensation expense. The increase in amortization of intangible assets primarily relates to increased investment in pre-publication costs related to ongoing investment in product development.
Interest expense. For the year ended December 31, 2003, interest expense decreased by $0.8 million, or 2.8%, to $28.1 million from $28.9 million for the same period in 2002. Interest expense as a percentage of net revenue decreased to 18.5% from 18.6% for the same period in 2002.
Income tax provision. For the year ended December 31, 2003, the provision for income taxes decreased by $3.6 million, or 85.7%, to $0.6 million from $4.2 million for the same period in 2002. Weekly Reader recorded non-cash deferred income tax expense of approximately $3.5 million on January 1, 2002 related to the adoption of SFAS 142. The non-cash charge of $3.5 million on January 1, 2002 was recorded to increase the valuation allowance related to the deferred tax asset associated with Weekly Reader’s net operating losses. Historically, Weekly Reader did not need a valuation allowance for the portion of its net operating loss equal to the excess of tax over book amortization on tax-deductible goodwill and trademarks since the liability was expected to reverse during the carryforward period of the net operating losses. As a result of the adoption of SFAS 142, the timing of the reversal of this liability is indefinite and can no longer be offset by Weekly Reader’s net operating loss carryforwards. While book amortization of tax-deductible goodwill and trademarks ceased on January 1, 2002, Weekly Reader will continue to amortize these assets for tax purposes. As a result, Weekly Reader will have deferred tax liabilities that will arise each quarter because the taxable temporary differences related to the amortization of these assets will not reverse prior to the expiration period of Weekly Reader’s deductible temporary differences unless the related assets are sold or an impairment of the assets is recorded.
Adjusted EBITDA. For the year ended December 31, 2003, Adjusted EBITDA decreased $4.3 million, or 9.4%, to $41.4 million from $45.7 million for the same period in 2002 This decrease is primarily attributable to the factors described above. Adjusted EBITDA represents income (loss) before interest expense, taxes, depreciation, amortization and other (income) charges including restructuring costs of $4.3
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million for the year ended December 31, 2002 and a restructuring adjustment of ($0.5) million for the year ended December 31, 2003. Adjusted EBITDA data is a non-GAAP measure and is included in our discussion because we believe that this information may be considered by investors as an additional basis on which to evaluate Weekly Reader’s performance. Because all companies do not calculate Adjusted EBITDA identically, the presentation of Adjusted EBITDA in this report is not necessarily comparable to similarly titled measures of other companies. Adjusted EBITDA is not intended to represent cash flow from operating activities and should not be considered an alternative to net income or loss (as determined in conformity with GAAP) as an indicator of our operating performance or to cash flow as a measure of liquidity. It is presented herein as we use it, in addition to operating income, to evaluate and measure each business unit’s performance based on their Adjusted EBITDA results. We also use Adjusted EBITDA to evaluate management performance. Adjusted EBITDA may not be available for our discretionary use as there are requirements to repay debt, among other payments. The reconciliation of Adjusted EBITDA to net income (loss) is as follows:
| Year Ended December 31, |
|||||||
| 2002 | 2003 | ||||||
| (Dollars in millions) | |||||||
Adjusted EBITDA reconciliation to Net Income (Loss) |
|||||||
Net income (loss) |
$ | (0.9) | $ | 2.4 | |||
Depreciation and amortization of intangibles |
9.2 | 10.8 | |||||
Income taxes |
4.2 | 0.6 | |||||
Interest expense |
28.9 | 28.1 | |||||
Restructuring costs |
4.3 | (0.5 | ) | ||||
Adjusted EBITDA |
$ | 45.7 | $ | 41.4 | |||
Results of Operations for the Year Ended December 31, 2003 — Weekly Reader Corporation and Subsidiaries – Segments |
Weekly Reader |
| Year Ended December 31, |
|||||||
| 2002 | 2003 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 44.8 | $ | 46.3 | |||
Income from operations |
9.1 | 9.0 | |||||
Percentage of net revenue |
20.3 | % | 19.4 | % | |||
Revenue, net. For the year ended December 31, 2003, net revenue at the Weekly Reader segment increased by $1.5 million, or 3.3%, to $46.3 million from $44.8 million in 2002. This increase was primarily attributable to higher revenue at Lifetime Learning Systems, Inc., a subsidiary of Weekly Reader as a result of increased sponsored supplemental educational material shipments of $2.5 million, increased licensing revenue of $0.5 million due to higher net revenue from the QVC Shopping Network Channel; partially offset by a decline in periodical circulation revenue of $1.5 million due to the challenging K-12 funding environment.
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Income from operations. For the year ended December 31, 2003, segment income from operations decreased by $0.1 million or 1.1% to $9.0 million from $9.1 million as gross profit increased by $1.0 million as a result of the volume increases described above. The increase in gross profit was offset by an increase in expenses. Weekly Reader’s portion of corporate overhead increased by $0.6 million from 2002 primarily related to severance for a senior executive, higher professional fees due to legal matters, an SEC inquiry and increased audit fees, and higher recruiting fees related to a management change. Distribution, circulation and fulfillment and expenses increased by $0.5 million from 2002 as a result of the increased revenue from the QVC Shopping Network Channel and Lifetime Learning Systems, Inc.
AGS |
| Year Ended December 31, |
|||||||
| 2002 | 2003 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 57.9 | $ | 56.6 | |||
Income from operations |
14.0 | 14.2 | |||||
Percentage of net revenue |
24.2 | % | 25.1 | % | |||
Revenue, net. For the year ended December 31, 2003, net revenue at the AGS segment decreased by $1.3 million or 2.2% to $56.6 million from $57.9 million for the same period in 2002. Curriculum revenue decreased $2.8 million from 2002 as textbooks/workbooks revenue decreased $1.1 million from 2002 primarily due to several large one-time Literature textbook orders in 2002 that were not repeated in 2003 and current market conditions. Test Prep revenue was down $0.7 million from 2002, due to current market conditions and there was a decline in Backlist Curriculum of $1.0 million from 2002 because these older product lines have not had any recent investment in product development. This decline in Curriculum revenue was partially offset by higher Assessment revenue of $1.5 million primarily driven by an increase in GRADE (Group Reading Assessment and Diagnostic Evaluation) of $1.9 million.
Income from operations. For the year ended December 31, 2003, segment income from operations increased by $0.2 million or 1.4% to $14.2 million from $14.0 million for 2002. Expenses decreased by $0.8 million from 2002 as general and administrative expenses decreased $0.4 million primarily due to a reduction in legal fees from 2002 and a loss on disposal of assets in 2002 partially offset by an increase in AGS’s portion of corporate overhead of $0.6 million from 2002 primarily related to severance for a senior executive, higher professional fees due to legal matters, an SEC inquiry and increased audit fees, and higher recruiting fees related to a management change. Editorial expenses decreased $0.8 million from 2002 due to the timing of spending on product development projects and restructuring charges decreased by $0.5 million from 2002 due to a reduction of severance costs. These expense reductions were partially offset by an increase in amortization of intangible assets of $1.1 million driven by an increase in amortization of prepublication costs resulting from new product releases and by a decrease in gross profit of $0.6 million as a result of the volume decrease described above.
World Almanac |
| Year Ended December 31, |
|||||||
| 2002 | 2003 | ||||||
| (Dollars in millions) | |||||||
Revenue, net |
$ | 52.3 | $ | 49.2 | |||
Income from operations |
11.1 | 7.4 | |||||
Percentage of net revenue |
21.2 | % | 15.0 | % | |||
Revenue, net. For the year ended December 31, 2003, net revenue at the World Almanac segment decreased by $3.1 million or 5.9% to $49.2 million from $52.3 million for the same period in 2002. This decrease was due to lower net revenue of $1.7 million at WAE Library Services and $1.3 million at Gareth Stevens, due in part to state budget deficits, which have directly impacted the catalog channel at WAE Library Services and the telemarketing and wholesale channel sales at Gareth Stevens.
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Income from operations. For the year ended December 31, 2003, segment income from operations decreased by $3.7 million or 33.3% to $7.4 million from $11.1 million primarily due to a reduction in gross profit of $2.4 million as a result of the volume decrease described above. World Almanac’s portion of corporate overhead increased by $0.6 million from 2002 primarily related severance for a senior executive, higher professional fees due to legal matters, an SEC inquiry and increased audit fees, and higher recruiting fees related to a management change. Distribution, Circulation and Fulfillment expenses increased by $0.2 million over 2002 due primarily to increased fulfillment and warehousing costs at Gareth Stevens.
Liquidity and Capital Resources |
General |
At December 31, 2004 WRC Media’s sources of cash were its (1) operating subsidiaries, Weekly Reader, CompassLearning, and ChildU and (2) a $30.0 million revolving credit facility. As of December 31, 2004, there were no outstanding balances under the revolving credit facility. Additionally, the Company has a stand-by letters of credit, renewable annually, in the amount of $2.1 million, which serves as security for a real estate lease entered into by the Company and certain surety bonds issued on behalf of the Company. While these letters of credit are in effect, they reduce available borrowing under the revolving credit facility by $2.1 million. At December 31, 2004, the Company had $27.9 of credit available under the revolving credit facility.
For the January through June time period, WRC Media and its subsidiaries usually experience negative cash flow due to the seasonality of its business. As a result of this business cycle, borrowings usually increase during the period January through June time period, and borrowings generally will be at its lowest point in the fourth quarter.
On March 29, 2004, we refinanced all of our term loans under our Senior Bank Credit Facilities (the “First-Lien Credit Facility”) with a $145.0 million senior, second-priority lien secured financing that was provided to the Company pursuant to a term loan facility (the “Second-Lien Facility”). The proceeds of the Second-Lien Facility were used (i) to refinance in full all term loans outstanding of $118.7 million under the First-Lien Facility, (ii) to pay fees and expenses of $6.6 million related to the Second-Lien Facility and all transactions contemplated in connection therewith and (iii) for general corporate purposes of the Company.
All payment obligations under the Second-Lien Facility are secured by a second-priority lien on the collateral securing the First-Lien Facility; provided that all obligations under the Second-Lien Facility will rank equally in right of payment with all payment obligations under the First-Lien Facility and will not be subordinated in any respect to the First-Lien Facility. The final maturity of the Second-Lien Facility is March 29, 2009. At the Company’s option, the loans will bear interest at either the Administrative Agent’s (i) alternate base rate (“Base Rate Loans”) or (ii) reserve-adjusted LIBO rate (“LIBO Rate Loans”) plus, in each case, the “Applicable Margin” (as defined). “Applicable Margin” means, with respect to (i) Base Rate Loans, a rate of 4.00% per annum and (ii) LIBO Rate Loans, a rate of 5.00% per annum.
The Second-Lien Facility has one financial covenant, a maximum ratio (the “Senior Leverage Ratio”) of Senior Secured Debt to trailing four quarter EBITDA not to exceed 4.25:1.00 for any fiscal quarter, except the fiscal quarter ended June 30, 2005 for which the Senior Leverage Ratio not exceed 4.50:1.00, in each case to be tested on the last day of each fiscal quarter and computed for the Company and its consolidated subsidiaries. We were in compliance with this financial covenant as of December 31, 2004. The Company’s senior leverage ratio was 3.27:1:00 as of December 31, 2004. The Second-Lien Facility also limits the amount of capital expenditures, including all capitalized software development costs and capitalized prepublication costs, to $21.0 million for each year. To the extent permitted, for capital expenditures in any year less than $21.0 million, the remaining permitted amount may be carried forward to the next succeeding year.
In connection with entering into the Second-Lien Credit Facility, we entered into an amendment and restatement of our First-Lien Credit Facility, which now consists solely of a $30.0 million revolving credit facility. The cash available under our First-Lien Credit Facility, together with the cash from our operating
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subsidiaries, Weekly Reader, CompassLearning and ChildU, is considered adequate for the Company’s needs for the foreseeable future.
The First-Lien Credit Facility, as amended and restated, has a maturity of December 29, 2008, and has one financial covenant, a Senior Leverage Ratio of senior secured debt to trailing four quarter EBITDA not to exceed 4.00:1.00 for any fiscal quarter, except the fiscal quarter ended June 30, 2005 for which the Senior Leverage Ratio may not exceed 4.25:1.00, in each case to be tested on the last day of the fiscal quarter and computed for the Company and its consolidated subsidiaries. We were in compliance with this financial covenant as of December 31, 2004. As discussed above, the Company’s senior leverage ratio was 3.27:1.00 for the period ended December 31, 2004. The First-Lien Facility also limits the amount of capital expenditures, including all capitalized software development costs and capitalized prepublication costs, to $21.0 million for each year. To the extent permitted, for capital expenditures in any year less than $21.0 million, the remaining permitted amount may be carried forward to the next succeeding year.
Interest on revolving loan borrowings under the First-Lien Credit Facility will bear interest at a maximum rate per annum equal to the LIBO rate as defined in the First-Lien Credit Facility plus 3.50% or the alternate base rate as defined in the First-Lien Credit Facility plus 2.50%. Such rates are subject to adjustment on a quarterly basis based on the Company’s leverage ratio for the last four quarters.
The credit agreement for our First-Lien Credit Facility is secured by liens on substantially all of our assets, and the credit agreement for our Second-Lien Credit Facility is secured by second-priority liens on all the assets securing the First-Lien Facility.
Liquidity, Working Capital and Capital Resources |
As of December 31, 2004 WRC Media and its subsidiaries had negative working capital of $13.5 million. WRC Media’s cash and cash equivalents were approximately $11.3 million at December 31, 2004. WRC Media and its subsidiaries’ operations provided approximately $2.0 million in cash for the year ended December 31, 2004. WRC Media and its subsidiaries’ principal uses of cash are for debt service and working capital.
As of December 31, 2004, Weekly Reader and its subsidiaries had positive working capital of $15.0 million. Weekly Reader’s cash and cash equivalents were approximately $11.2 million at December 31, 2004. Weekly Reader and its subsidiaries’ operations provided approximately $0.9 million in cash for the year ended December 31, 2004. Weekly Reader and its subsidiaries’ principal uses of cash are the debt service and working capital.
WRC Media and its subsidiaries’ investing activities for the year ended December 31, 2004, included investments in software development of approximately $5.4 million and capital expenditures of approximately $1.5 million.
Weekly Reader and its subsidiaries’ investing activities for the year ended December 31, 2004, included capital expenditures of approximately $1.3 million.
WRC Media and its subsidiaries’ financing activities consist of making drawings from, and repayments to, our revolving credit facility and retiring amounts due under our senior secured term loans. For the year ended December 31, 2004, financing activities provided net cash of $14.7 million as term loans of $118.7 million were replaced with a $145.0 million senior, second-priority lien secured financing. The Second Lien Credit Facility does not amortize and we do not expect our financing activities going forward to include regular periodic retirement of term loans prior to maturity. The Second Lien Credit Facility matures on March 29, 2009.
Weekly Reader and its subsidiaries’ financing activities consist of making drawings from, and repayments to, our revolving credit facility and retiring amounts due under our senior secured term loans. For the year ended December 31, 2004, financing activities provided net cash of $10.4 million as term loans of $118.7 million were replaced with a $145.0 million senior, second-priority lien secured financing. The Second Lien Credit Facility does not amortize, and we do not expect our financing activities going forward to include
52
regular periodic retirement of term loans prior to maturity. The Second Lien Credit Facility matures on March 29, 2009.
Derivative Financial Instruments |
Pursuant to the terms of the First and Second-Lien Credit Agreements, the Company is required to enter into or maintain interest rate protection agreements (interest rate swaps, caps, collars or similar agreements) in a notional amount that, when taken together with the aggregate principal amount of Total Debt, as defined, subject to a fixed interest rate, is at least equal to at least 50% of the aggregate principal amount of Total Debt. On November 15, 2003, the Company entered into a one year interest rate cap agreement with a notional principal of $61 million, which caps the LIBOR based rate, as defined, on those loans at 2.5%. The interest rate protection agreement did not qualify for hedge accounting treatment and as such the Company marks to market the contract at the end of each period. This interest rate cap agreement expired November 15, 2004. Between November 15, 2004 and December 31, 2004, more than 50% of the aggregate principal amount of Total Debt, as defined, is subject to a fixed interest rate. Therefore, the interest rate cap was not renewed during that period.
Seasonality |
Operating results have varied and are expected to continue to vary from quarter to quarter as a result of seasonal patterns. Weekly Reader and Compass/ChildU’s net revenue are significantly affected by the school year. Weekly Reader’s net revenue in the third, and to a lesser extent the fourth, quarters are generally the strongest as products are shipped for delivery during the school year. Compass/ChildU’s net revenues were historically strongest in the second quarter, and to a lesser extent the fourth quarter. However, due to tight funding environment in the last couple of years, the trend has shifted towards the fourth quarter being the strongest, followed by the second quarter. The historical strength of the second quarter was generally attributed to the end of the school fiscal year (June 30th) and the need for the schools to spend the money prior to year end. In addition, by purchasing in the second quarter, schools are able to have the software products purchased and installed over the summer and ready to train teachers when they return from summer vacation. However, due to budget cuts, schools no longer have excess money at the end of their fiscal year which has recently resulted in lower sales for Compass/ChildU in our second fiscal quarter. Compass/ChildU’s recent fourth quarter revenue is strengthening as a result of sales patterns driven by new school year money being appropriated and funded, Compass/ChildU’s commissioned sales force seeking to meet year-end sales goals as well as schools purchasing software to be installed in time to take advantage of it during the second half of the school year.
Inflation |
We do not believe that inflation has had a material impact on our financial position or results of operations for the periods discussed above. Although inflationary increases in paper, postage, labor or operating costs could adversely affect operations, we have generally been able to offset increases in costs through price increases, labor scheduling and other management actions.
Recent Accounting Pronouncements |
In January 2003, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 46, “Consolidation of Variables Interest Entities (“FIN 46”). FIN 46 clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. In December 2003, the FASB issued FIN No. 46 (Revised) (“FIN 46R”) to address certain FIN 46 implementation issues. This interpretation requires that the assets, liabilities, and results of activities of a Variable Interest Entity (“VIE”) be consolidated into the financial statements of the enterprise that is the primary beneficiary of the VIE. FIN 46R also requires additional disclosures by primary beneficiaries and other significant variable interest holders. This interpretation was effective no later than the end of the first interim or reporting period ending after March 15, 2004, except for those VIE’s that are considered to be
53
special purpose entities, for which the effective date is no later than the end of the first interim or annual reporting period ending after December 15, 2003. The adoption of FIN 46R, effective March 31, 2004, did not have any effect on the Company’s consolidated financial position or results of operations.
In April 2003, the FASB issued Statements of Financial Accounting Standards (“SFAS”) No. 149 “Amendment of Statement 133 on Derivative Instruments and Hedging Activities” (“SFAS 149”), which amends and clarifies accounting for derivative instruments, and for hedging activities under SFAS 133. Specifically, SFAS 149 requires that contracts with comparable characteristics be accounted for similarly. Additionally, SFAS 149 clarifies the circumstances in which a contract with an initial net investment meets the characteristics of a derivative and when a derivative contains a financing component that requires special reporting in the statement of cash flows. This Statement is generally effective for contracts entered into or modified after June 30, 2003 and its adoption did not have any effect on the Company’s consolidated financial position or results of operations.
In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity” (“SFAS 150”). SFAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). Many of those instruments were previously classified as equity. This statement was effective for the Company beginning January 1, 2004. For financial instruments created before the issuance date of this statement and still existing at the beginning of the interim period of adoption, transition shall be achieved by reporting the cumulative effect of a change in an accounting principle by initially measuring the financial instruments at fair value or other measurement attribute required by this statement. The adoption of this statement required the Company to reclassify its 15% Senior Preferred Stock (“15% Senior Preferred”) from the mezzanine section of the balance sheet to long-term liabilities. Effective January 1, 2004 dividend payments for the 15% Senior Preferred are recorded as interest expense in the consolidated statement of operations. The adoption of this statement did not result in any adjustment to the book value of its 15% Senior Preferred as of January 1, 2004, as book value approximated fair value at January 1, 2004. For the year ended December 31, 2004 the Company recognized $21,994 of accrued dividends and $959 of accretion on 15% Senior Preferred as interest expense.
In December 2003, the FASB issued SFAS No. 132 (Revised 2003), “Employers’ Disclosures about Pensions and Other Postretirement Benefits, an amendment of FASB Statements No. 87, 88 and 106.” It requires additional disclosures to those in the original Statement 132 about the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined benefit post-retirement plans. The majority of the provisions of this statement apply to financial statements issued for fiscal years ending after December 15, 2003. The Company adopted such disclosure provisions.
In March 2004, the Emerging Issues Task Force of the FASB reached a consensus on Issue No. 03-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments” (“Issue 03-1”). Issue 03-1 provides guidance for determining when an investment is other-than-temporarily impaired specifically, whether an investor has the ability and intent to hold an investment until recovery. In addition, Issue 03-1 contains disclosure requirements about impairments that have not been recognized as other than temporary for investments. Issue 03-1 also requires the investor to disclose investments with unrealized losses that have not been recognized as other-than-temporary impairments. The disclosures are effective in annual financial statements for fiscal years ending after December 15, 2003, for investments accounted for under statements 115 and 124. For all other investments within the scope of this Issue, the disclosures are effective in annual financial statements for fiscal years ending after June 15, 2004. The additional disclosures for cost method investments are effective for fiscal years ending after June 15, 2004. In September 2004, the FASB delayed the effective date of the measurement and recognition guidance of Issue 03-1 until the FASB issues FASB Staff Position 03-1a. The adoption of this consensus is not expected to have any impact on the Company’s consolidated results of operations or financial position.
In November 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 151, “Inventory Costs – An Amendment of ARB No. 43, Chapter 4.” SFAS 151 clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs, and
54
wasted material (spoilage). SFAS 151 requires that those items be recognized as current period charges. In addition, SFAS 151 requires that the allocation of fixed production overheads to the costs of conversion be based on the normal capacity of production facilities. The provisions of SFAS 151 are effective for inventory costs incurred during fiscal years beginning after June 15, 2005. Companies must apply the standard prospectively. The adoption of SFAS No. 151 is not expected to have a material impact on the Company’s consolidated results of operations or financial position.
In December 2004, the FASB issued FAS No. 123R, “Share-Based Payment” (“SFAS 123R”), a revision of SFAS 123. The revised statement clarifies the accounting for transactions in which an entity exchanges its equity instruments for goods or services. Specifically, the statement eliminates the use of intrinsic value method of accounting provided for in APB 25, Accounting for Stock Issued to Employees, and requires entities to recognize the cost of equity instruments granted to employee using the grant-date fair value of the award. The provisions of SFAS 123R are affective for the Company beginning January 1, 2006. The adoption of SFAS 123R is not expected to have a material impact on the Company’s consolidated financial position or results of operations.
In December 2004, the FASB issued SFAS No. 153 “Exchange of Non-monetary Assets, an Amendment of APB Opinion No. 29, Accounting for Non-monetary Transactions.” SFAS No. 153 addresses the measurement of exchanges of non-monetary assets and requires that such exchanges be measured at fair value, with limited exceptions. SFAS No. 153 Amends APB Opinion No. 29 by eliminating the exception that required non-monetary exchanges of similar productive assets to be recorded on a carryover basis. The provisions of SFAS No. 153 are effective for non-monetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The adoption of SFAS No. 153 is not expected to have a material impact on the Company’s consolidated financial position or results of operations.
Factors That May Affect The Future Results And Financial Condition |
This Annual Report on Form 10-K contains forward-looking statements. Additional written and oral forward-looking statements may be made by the Company from time to time in SEC filings and otherwise. The Company cautions readers that results predicted by forward-looking statements, including, without limitation, those relating to the Company’s future business prospects, revenues, working capital, liquidity, capital needs, interest costs and income, are subject to certain risks and uncertainties that could cause actual results to differ materially from those indicated in the forward-looking statements, due to factors including the following and other risks and factors identified from time to time in the Company’s filings with the SEC:
The Company’s ability to continue to produce successful supplemental education material and software products;
On February 9, 2005, Martin E. Kenney, our then Chief Executive Officer and Director of the Company, was granted paid leave from his position as Chief Executive Officer and resigned as a director of the Company following his receipt of a “Wells” notice from the staff of the SEC. As further explained in Item 3 (Legal Proceedings), two non-executive employees of CompassLearning also received “Wells” notices and were placed on paid leave in connection with the informal inquiry by the SEC that resulted in the “Wells” notice received by Mr. Kenney. We cannot predict the timing or result of the eventual resolution of the SEC’s inquiry, nor can we provide assurance that the loss of Mr. Kenney’s services for an indefinite period will not affect the timing of achieving, or the Company’s ability to meet, our strategic goals or otherwise have a material adverse affect on the Company.
Reductions in state and local funding for educational spending materials resulting, among other things, from increasing state budget deficits;
Continued uncertainty in the current operating environment which makes it difficult to forecast future results;
The ability of the Company’s print and electronic supplemental instructional materials to continue to successfully meet market needs;
The Company’s ability to maintain relationships with its creative talent;
55
Changes in purchasing patterns in and the strength of educational, trade and software markets;
Competition from other supplemental education materials companies;
Significant changes in the publishing industry, especially relating to the distribution and sale of supplemental educational materials;
The effect on the Company of volatility in the price of paper and periodic increases in postage rates;
The Company’s ability to effectively use the Internet to support its existing businesses and to launch successful new Internet initiatives;
The general risks inherent in the market and the impact of rising interest rates with regard to its variable debt facilities; and
The terms of our First-Lien Facility and Second-Lien Facility require us on an ongoing basis to meet certain maximum secured leverage ratio covenants. A default under either credit agreement could result in acceleration of payment obligations thereunder and would have a material adverse effect on our financial condition and liquidity.
The foregoing list of factors should not be construed as exhaustive or as any admission regarding the adequacy of disclosures made by the Company prior to the date hereof. The Company disclaims any intention or obligation to update or revise forward-looking statements, whether as a result of new information, future events or otherwise.
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk |
We are exposed to market risk. Market risk, with respect to our business, is the potential loss arising from adverse changes in interest rates. We manage our exposure to this market risk through daily operating and financing activities and, when deemed appropriate, through the use of derivatives. We use derivatives as risk management tools and not for trading purposes.
We were subject to market risk exposure related to changes in interest rates on our $145.0 million senior secured term loans under our Second Lien Credit Facility. Interest on revolving loan borrowings under our First Lien Credit Facility maturing in December 2008 will bear interest at a rate per annum equal to the LIBO rate as defined in the First Lien Credit Facility plus 3.5% or the alternate base rate as defined in the First Lien Credit Facility plus 2.5% (subject to performance-based step downs).
Interest on the term loans under our Second Lien Credit Facility maturing in March 2009 will bear interest at a rate per annum equal to the LIBO rate as defined in the Second Lien Credit Facility plus 5.0% or the alternate base rate as defined in the Second Lien Credit Facility plus 4.0%. A 1% increase in interest rates would result in an increase in our annual interest costs of approximately $1.45 million.
Pursuant to the terms of the First and Second-Lien Credit Agreements, the Company is required to enter into or maintain interest rate protection agreements (interest rate swaps, caps, collars or similar agreements) in a notional amount that, when taken together with the aggregate principal amount of Total Debt, as defined, subject to a fixed interest rate, is at least equal to at least 50% of the aggregate principal amount of Total Debt. On November 15, 2003, the Company entered into a one year interest rate cap agreement with a notional principal of $61 million, which caps the LIBOR based rate, as defined, on those loans at 2.5%. The interest rate protection agreement did not qualify for hedge accounting treatment and as such the Company marks to market the contract at the end of each period. This interest rate cap agreement expired November 15, 2004. Between November 15, 2004 and December 31, 2004, more than 50% of the aggregate principal amount of Total Debt, as defined, is subject to a fixed interest rate. Therefore, the interest rate cap was not renewed during that period.
56
ITEM 8. Consolidated Financial Statements |
Index to Consolidated Financial Statements and Financial Statement Schedule |
Page | |||
WRC MEDIA INC. AND SUBSIDIARIES (CO-ISSUER OF SENIOR SUBORDINATED NOTES): |
||||
| 58 | ||||
| 59 | ||||
| 61 | ||||
| 62 | ||||
| 64 | ||||
| 65 | ||||
WEEKLY READER CORPORATION AND SUBSIDIARIES (CO-ISSUER OF SENIOR SUBORDINATED NOTES): |
||||
| 93 | ||||
| 94 | ||||
| 96 | ||||
| 97 | ||||
| 98 | ||||
| 99 | ||||
57
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders’ of
WRC Media Inc.
New York, New York
We have audited the accompanying consolidated balance sheets of WRC Media Inc. and subsidiaries (the “Company”) as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders’ deficit, and cash flows for each of the three years in the period ended December 31, 2004. Our audits also included the financial statement schedule listed in the index at Item 15. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and the financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of WRC Media Inc. and subsidiaries as of December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2004, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material, respects the information set forth therein.
As discussed in Notes 2 and 14 of the consolidated financial statements, as of January 1, 2004, the Company changed its method of accounting for its 15% Senior Preferred Stock to conform to Statement of Financial Accounting Standards No. 150.
DELOITTE & TOUCHE LLP
New York, New York
March 31, 2005
58
WRC MEDIA INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(amounts in thousands, except share and per share data)
| December 31, |
|||||||
| 2003 | 2004 | ||||||
ASSETS |
|||||||
CURRENT ASSETS: |
|||||||
Cash and cash equivalents |
$ | 1,432 | $ | 11,265 | |||
Accounts receivable (net of allowances for doubtful accounts and sales returns of $2,519 and $2,811, respectively) |
30,027 | 30,560 | |||||
Inventories |
16,652 | 16,554 | |||||
Prepaid expenses |
3,367 | 2,939 | |||||
Other current assets (including restricted assets of $1,006 and $734, respectively) |
1,889 | 2,399 | |||||
Total current assets |
53,367 | 63,717 | |||||
PROPERTY AND EQUIPMENT, net |
5,792 | 4,882 | |||||
CAPITALIZED SOFTWARE, net |
7,293 | 10,004 | |||||
GOODWILL |
241,324 | 205,245 | |||||
DEFERRED FINANCING COSTS, net |
5,675 | 8,508 | |||||
OTHER INTANGIBLE ASSETS, net |
76,860 | 65,582 | |||||
OTHER ASSETS |
29,896 | 31,618 | |||||
Total assets |
$ | 420,207 | $ | 389,556 | |||
The accompanying notes are an integral part of these consolidated financial statements.
59
WRC MEDIA INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (continued)
(amounts in thousands, except share and per share data)
| December 31, |
|||||||
| 2003 | 2004 | ||||||
LIABILITIES AND STOCKHOLDERS’ DEFICIT |
|||||||
CURRENT LIABILITIES: |
|||||||
Accounts payable |
$ | 16,963 | $ | 17,049 | |||
Accrued payroll, commissions and benefits |
9,356 | 8,029 | |||||
Current portion of deferred revenue |
35,900 | 35,468 | |||||
Other accrued liabilities |
17,166 | 16,689 | |||||
Current portion of long-term debt |
8,477 | — | |||||
Total current liabilities |
87,862 | 77,235 | |||||
DEFERRED REVENUE, net of current portion |
959 | 1,442 | |||||
DEFERRED TAX LIABILITIES |
10,800 | 8,293 | |||||
15% SENIOR PREFERRED STOCK, including accrued dividends and accretion of warrant value (3,000,000 shares outstanding) (Liquidation preference of $160,630) |
— | 153,654 | |||||
LONG-TERM DEBT |
262,925 | 293,238 | |||||
Total liabilities |
362,546 | 533,862 | |||||
COMMITMENTS AND CONTINGENCIES |
|||||||
15% SENIOR PREFERRED STOCK, including accrued dividends and accretion of warrant value (3,000,000 shares outstanding) (Liquidation preference of $138,637) |
130,701 | — | |||||
WARRANTS ON COMMON STOCK OF SUBSIDIARIES |
11,751 | 11,751 | |||||
COMMON STOCK SUBJECT TO REDEMPTION |
940 | 950 | |||||
STOCKHOLDERS’ DEFICIT: |
|||||||
Common stock, ($.01 par value, 20,000,000 shares authorized; 7,008,406 outstanding in 2003 and 2004) |
70 | 70 | |||||
18% convertible preferred stock, ($.01 par value, 750,000 shares authorized, 547,980 outstanding in 2003 and 653,476 outstanding in 2004) |
21,919 | 26,139 | |||||
Additional paid-in capital |
131,753 | 131,753 | |||||
Accumulated other comprehensive loss |
(1,899 | ) | (1,772 | ) | |||
Accumulated deficit |
(237,574 | ) | (313,197 | ) | |||
Total stockholders’ deficit |
(85,731 | ) | (157,007 | ) | |||
Total liabilities and stockholders’ deficit |
$ | 420,207 | $ | 389,556 | |||
The accompanying notes are an integral part of these consolidated financial statements.
60
WRC MEDIA INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended December 31, 2002, 2003 and 2004
(amounts in thousands)
| 2002 | 2003 | 2004 | ||||||||
REVENUE, net |
$ | 207,873 | $ | 202,703 | $ | 209,468 | ||||
COST OF GOODS SOLD |
59,953 | 56,445 | 58,814 | |||||||
Gross profit |
147,920 | 146,258 | 150,654 | |||||||
COSTS AND EXPENSES: |
||||||||||
Sales and marketing |
48,588 | 47,201 | 52,386 | |||||||
Research and development |
1,728 | 1,424 | 1,741 | |||||||
Distribution, circulation and fulfillment |
14,012 | 14,626 | 14,846 | |||||||
Editorial |
10,847 | 10,365 | 10,797 | |||||||
General and administrative |
25,934 | 25,379 | 29,545 | |||||||
Restructuring costs and other non-recurring expenses |
8,594 | 1,018 | 1,537 | |||||||
Depreciation |
3,065 | 2,280 | 1,830 | |||||||
Amortization of intangible assets |
16,653 | 17,546 | 16,416 | |||||||
Impairment of goodwill and intangible assets |
— | — | 37,424 | |||||||
Total operating costs and expenses |
129,421 | 119,839 | 166,522 | |||||||
Income (loss) from operations |
18,499 | 26,419 | (15,868 | ) | ||||||
INTEREST EXPENSE, INCLUDING AMORTIZATION OF DEFERRED FINANCING COSTS |
(30,061 | ) | (29,349 | ) | (56,674 | ) | ||||
LOSS ON INVESTMENT |
(3,064 | ) | — | — | ||||||
OTHER INCOME (EXPENSE), net |
721 | (1,453 | ) | (1,005 | ) | |||||
Loss before income tax provision |
(13,905 | ) | (4,383 | ) | (73,547 | ) | ||||
INCOME TAX PROVISION |
8,180 | 3,051 | (2,144 | ) | ||||||
Net loss |
$ | (22,085 | ) | $ | (7,434 | ) | $ | (71,403 | ) | |
The accompanying notes are an integral part of these consolidated financial statements.
61
WRC MEDIA INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ DEFICIT
For the Years Ended December 31, 2002, 2003 and 2004
(amounts in thousands, except per share data)
| Common Stock |
Additional | Accumulated Other Comprehensive |
Accumulated | |||||||||||||
| Shares | Value | Paid-In Capital | Income (Loss) | Deficit | ||||||||||||
Balance January 1, 2002 |
7,013 | $ | 70 | $ | 131,303 | $ | (316 | ) | $ | (164,304 | ) | |||||
Other comprehensive loss: |
||||||||||||||||
Net loss |
— | — | — | — | (22,085 | ) | ||||||||||
Minimum pension liability |
— | — | — | (3,041 | ) | — | ||||||||||
Total comprehensive loss |
||||||||||||||||
Senior preferred stock dividends |
— | — | — | — | (16,384 | ) | ||||||||||
Accretion of senior preferred stock |
— | — | — | — | (932 | ) | ||||||||||
Dividends on convertible preferred stock |
— | — | — | — | (2,968 | ) | ||||||||||
Issuance of common stock for services—8,064 shares at $18.60 per share |
8 | — | 150 | — | — | |||||||||||
Acquisition of common stock subject to redemption—11,559 shares at $40.00 per share |
(11 | ) | — | — | — | — | ||||||||||
Balance December 31, 2002 |
7,010 | 70 | 131,453 | (3,357 | ) | (206,673 | ) | |||||||||
Other comprehensive loss: |
||||||||||||||||
Net loss |
— | — | — | — | (7,434 | ) | ||||||||||
Minimum pension liability |
— | — | — | 1,458 | — | |||||||||||
Total comprehensive loss |
— | |||||||||||||||
Senior preferred stock dividends |
— | — | — | — | (18,982 | ) | ||||||||||
Accretion of senior preferred stock |
— | — | — | — | (947 | ) | ||||||||||
Dividends on convertible preferred stock |
— | — | — | — | (3,538 | ) | ||||||||||
Management fees forgiven by principal shareholder |
— | — | 300 | — | — | |||||||||||
Common stock repurchase—1,344 shares at $18.60 per share |
(2 | ) | — | — | — | — | ||||||||||
Balance December 31, 2003 |
7,008 | 70 | 131,753 | (1,899 | ) | (237,574 | ) | |||||||||
Other comprehensive loss: |
||||||||||||||||
Net loss |
— | — | — | — | (71,403 | ) | ||||||||||
Minimum pension liability |
— | — | — | 127 | — | |||||||||||
Total comprehensive loss |
— | |||||||||||||||
Dividends on convertible preferred stock |
— | — | — | — | (4,220 | ) | ||||||||||
Balance December 31, 2004 |
7,008 | $ | 70 | $ | 131,753 | $ | (1,772 | ) | $ | (313,197 | ) | |||||
62
| Junior Preferred Stock |
Total Stockholders’ | |||||||||
| Shares | Value | Deficit | ||||||||
Balance January 1, 2002 |
386 | $ | 15,413 | $ | (17,834 | )) | ||||
Other comprehensive loss: |
||||||||||
Net loss |
— | — | ||||||||
Minimum pension liability |
— | — | ||||||||
Total comprehensive loss |
(25,126 | ) | ||||||||
Senior preferred stock dividends |
— | — | (16,384 | ) | ||||||
Accretion of senior preferred stock |
— | — | (932 | ) | ||||||
Dividends on convertible preferred stock |
74 | 2,968 | — | |||||||
Issuance of common stock for services—8,064 shares at $18.60 per share |
— | — | 150 | |||||||
Acquisition of common stock subject to redemption—11,559 shares at $40.00 per share |
— | — | — | |||||||
Balance December 31, 2002 |
460 | 18,381 | (60,126 | ) | ||||||
Other comprehensive loss: |
||||||||||
Net loss |
— | — | ||||||||
Minimum pension liability |
— | — | ||||||||
Total comprehensive loss |
(5,976 | ) | ||||||||
Senior preferred stock dividends |
— | — | (18,982 | ) | ||||||
Accretion of senior preferred stock |
— | — | (947 | ) | ||||||
Dividends on convertible preferred stock |
88 | 3,538 | — | |||||||
Management fees forgiven by principal shareholder |
— | — | 300 | |||||||
Common stock repurchase—1,344 shares at $18.60 per share |
— | — | — | |||||||
Balance December 31, 2003 |
548 | 21,919 | (85,731 | ) | ||||||
Other comprehensive loss: |
||||||||||
Net loss |
— | — | ||||||||
Minimum pension liability |
— | — | ||||||||
Total comprehensive loss |
(71,276 | ) | ||||||||
Dividends on convertible preferred stock |
105 | 4,220 | — | |||||||
Balance December 31, 2004 |
653 | $ | 26,139 | $ | (157,007 | ) | ||||
The accompanying notes are an integral part of these consolidated financial statements.
63
WRC MEDIA INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2002, 2003 and 2004
(amounts in thousands)
| 2002 | 2003 | 2004 | ||||||||
CASH FLOWS FROM OPERATING ACTIVITIES: |
||||||||||
Net loss |
$ | (22,085 | ) | $ | (7,434 | ) | $ | (71,403 | ) | |
Adjustments to reconcile net loss to net cash provided by operating activities: |
||||||||||
Impairment of goodwill and intangible assets |
— | — | 37,424 | |||||||
Deferred income tax provision |
7,900 | 2,900 | (2,507 | ) | ||||||
Depreciation and amortization |
21,932 | 22,295 | 20,901 | |||||||
Accrual of mandatorily redeemable preferred stock dividends |
— | — | 21,994 | |||||||
Accretion of prefered stock |
— | — | 959 | |||||||
Loss on investment |
3,064 | — | — | |||||||
Impairment of pre-publication costs |
— | — | 76 | |||||||
Write-off of acquisition costs |
49 | — | — | |||||||
Issuance of common stock for services |
150 | — | — | |||||||
Management fees forgiven by principal shareholder |
— | 300 | — | |||||||
Loss on disposition of property and equipment |
711 | 105 | 138 | |||||||
Amortization of debt discount |
396 | 451 | 515 | |||||||
Amortization of deferred financing costs |
1,381 | 1,436 | 3,808 | |||||||
Changes in operating assets and liabilities: |
||||||||||
Accounts receivable |
7,152 | 6,302 | (533 | ) | ||||||
Inventories |
(404 | ) | (1,207 | ) | 98 | |||||
Prepaid expenses and other current assets |
11,268 | (524 | ) | (82 | ) | |||||
Other noncurrent assets |
(10,629 | ) | (11,242 | ) | (7,863 | ) | ||||
Accounts payable |
2,413 | (3,862 | ) | 86 | ||||||
Deferred revenue |
(613 | ) | (3,745 | ) | 51 | |||||
Accrued liabilities |
(10,269 | ) | (4,025 | ) | (1,680 | ) | ||||
Net cash provided by operating activities |
12,416 | 1,750 | 1,982 | |||||||
CASH FLOWS FROM INVESTING ACTIVITIES: |
||||||||||
Purchase of property and equipment |
(1,414 | ) | (1,592 | ) | (1,474 | ) | ||||
Capitalized software |
(4,333 | ) | (4,791 | ) | (5,366 | ) | ||||
Proceeds from the disposition of property & equipment |
578 | 4 | — | |||||||
Net cash used in investing activities |
(5,169 | ) | (6,379 | ) | (6,840 | ) | ||||
CASH FLOWS FROM FINANCING ACTIVITIES: |
||||||||||
Proceeds from revolving line of credit |
33,000 | 34,000 | 37,000 | |||||||
Repayments of revolving line of credit |
(33,000 | ) | (29,000 | ) | (42,000 | ) | ||||
Repayment of senior bank debt |
(6,171 | ) | (7,989 | ) | (118,678 | ) | ||||
Deferred financing fees |
(685 | ) | (20 | ) | (6,641 | ) | ||||
Proceeds from issuance of long-term debt |
— | — | 145,000 | |||||||
Purchase and issuance of common stock subject to redemption |
(215 | ) | (25 | ) | 10 | |||||
Net cash provided by (used in) financing activities |
(7,071 | ) | (3,034 | ) | 14,691 | |||||
Increase (decrease) in cash and cash equivalents |
176 | (7,663 | ) | 9,833 | ||||||
CASH AND CASH EQUIVALENTS, beginning of year |
8,919 | 9,095 | 1,432 | |||||||
CASH AND CASH EQUIVALENTS, end of year |
$ | 9,095 | $ | 1,432 | $ | 11,265 | ||||
The accompanying notes are an integral part of these consolidated financial statements.
64
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
1. Description of Business
The consolidated financial statements include the accounts of WRC Media Inc. (“WRC Media”) and its subsidiaries Weekly Reader Corporation (“Weekly Reader”), CompassLearning, Inc. (“CompassLearning”) and ChildU, Inc. (“ChildU”). WRC Media was incorporated on May 14, 1999. The term “Company” refers to WRC Media and its subsidiaries.
The Company is in the business of developing, publishing and marketing print and electronic supplemental education materials for the Pre-K-12 market. Our product portfolio includes a broad range of instructional materials, testing and assessment products and library materials. Certain of the Company’s products have been sold in the education marketplace for over 100 years. The Company’s customers are primarily within the United States.
On November 17, 1999, WRC Media completed the recapitalization and purchase of Weekly Reader and its subsidiaries. As a result of these transactions, WRC Media owns 94.9% and PRIMEDIA Inc. owns 5.1% of the common stock of Weekly Reader.
On May 9, 2001, WRC Media entered into an Agreement and Plan of Merger with ChildU. Contemporaneously, the Company issued $13.75 million of 18% Junior Participating Cumulative Convertible Preferred Stock. The proceeds funded the operating losses of ChildU and WRC Media’s investment in ThinkBox, Inc., described below.
On May 18, 2001, WRC Media made a strategic investment in ThinkBox Inc., a creator of Internet-delivered education programs for the school and home markets. This investment is accounted for under the equity method of accounting. The Company recorded equity losses equal to the carrying value of its investment of ThinkBox during the year ended December 31, 2002.
2. Summary of Significant Accounting Policies
Principles of Consolidation |
The consolidated financial statements include the accounts of the Company and its wholly- and majority-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.
Use of Estimates |
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. Actual results could differ materially from those estimates. Significant accounting estimates used in the preparation of the Company’s consolidated financial statements include the fair value of derivative instruments, the fair value of equity securities underlying stock-based compensation, estimates used in calculating the allowance for doubtful accounts and sales returns, the realizability of deferred tax assets, the carrying values of goodwill, intangible assets and long- lived assets and depreciation and amortization.
Inventories |
Inventories are stated at the lower of cost or market. Cost is determined on the first-in, first-out (FIFO) basis. The Company periodically evaluates the realizability of inventories and adjusts the carrying value as necessary.
65
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
2. Summary of Significant Accounting Policies — (Continued)
Fair Value of Financial Instruments |
The estimated fair value of financial instruments has been determined by the Company using available market information and valuation methodologies. Considerable judgment is required in estimating fair values. Accordingly, the estimates may not be indicative of the amounts the Company could realize in a current market exchange. The carrying values of cash, accounts receivable, and accounts payable approximate fair value based on the short-term nature of these financial instruments.
The carrying values of the Company’s Senior Bank Credit Facilities are assumed to approximate the market value due to the variable interest rates on these instruments. The estimated fair values of other financial instruments as of December 31, 2004 are as follows:
| Fair Value | Carrying Amount | Face Value | ||||||||
12 3/4% Senior Subordinated Notes |
$ | 144,400 | $ | 148,238 | $ | 152,000 | ||||
The carrying value of the Company’s 15% Senior Preferred Stock approximates its fair value at December 31, 2004. There is no market value information available for the Company’s 18% convertible preferred stock and the warrants to purchase common shares of the Company’s subsidiaries and a reasonable estimate could not be made without incurring excessive costs.
Derivative Financial Instruments |
Derivative financial instruments are held for purposes other than trading. The Company uses derivative financial instruments to reduce its exposure to interest rate volatility. All derivative instruments are recorded at fair value. For those instruments that do not qualify for hedge accounting, changes in fair value are recognized in income. At December 31, 2004, the Company did not hold any derivative financial instruments.
Cash and Cash Equivalents |
Management considers all highly liquid instruments purchased with an original maturity of 90 days or less to be cash equivalents.
Software Development Costs |
The Company capitalizes software development costs under the provisions of either Statement of Position 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use” (“SOP 98-1”) or Statement of Financial Accounting Standards (“SFAS”) 86, “Computer Software to be Sold, Leased, or Otherwise Marketed” (“SFAS 86”), based on the intended use of the software.
Research and development costs are charged to expense when incurred. Additionally, the Company capitalizes acquired and developed technologies that meet the provisions of SFAS 86. The establishment of technological feasibility and the ongoing assessment of the recoverability of these costs require considerable judgment by management with respect to certain external factors, including, but not limited to, anticipated future gross product revenues, estimated economic product lives and changes in software and hardware technology. Software development costs are amortized on a straight-line basis over the expected life of the product. The Company periodically evaluates the net realizable value of capitalized software development costs based on factors such as budgeted sales, product development cycles and management’s market emphasis. Software amortization of software to be sold is included in Cost of Goods Sold on the accompanying consolidated statements of operations. Amortization included in Cost of Goods Sold for the years ended December 31, 2002, 2003 and 2004 was $2,214, $2,468 and $2,655, respectively.
66
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
2. Summary of Significant Accounting Policies — (Continued)
The Company capitalizes the costs of acquiring, developing and testing software to meet the Company’s internal needs. Under the provisions of SOP 98-1, the Company capitalizes costs associated with software developed or obtained for internal use when both the preliminary project stage is completed and management has authorized further funding for the project which it deems probable will be completed and used to perform the function intended. Capitalized cots include only (1) external direct costs of materials and services consumed in developing or obtaining internal-use software, (2) payroll and payroll-related costs for employees who are directly associated with and devote time to the internal-use software project and (3) interest costs incurred while developing internal-use software. Capitalization of such costs ceases no later than the point at which the project is substantially complete and ready for its intended use. Internal use software costs are amortized using a straight-line method over a five-year period. Amortization of internal use software costs amounted to $436, $440 and $226 for the years ended December 31, 2002, 2003 and 2004, respectively. Costs associated with the purchase and development of software for internal use have been capitalized in the amounts of $127 and $353 during the years ended December 31, 2003 and 2004, respectively.
Goodwill and Indefinite Lived Intangible |
Goodwill represents the excess of the purchase price of companies acquired over the fair value of their net assets at the acquisition date. On January 1, 2002, the Company adopted SFAS 142, “Goodwill and Other Intangible Assets.” Under SFAS 142, goodwill and intangible assets deemed to be indefinite lived intangible assets (primarily trademarks) are no longer amortized but are subject to annual impairment tests. Upon adoption of SFAS 142, the Company ceased amortizing goodwill and indefinite lived intangible assets.
The Company tests goodwill for impairment, at least annually in the fourth quarter, and uses a fair value approach at the reporting unit level. A reporting unit is an operating segment or one level below an operating segment for which discrete financial information is available and reviewed regularly by management. Assets and liabilities of the Company have been assigned to the reporting units to the extent that they are employed in or are a liability related to the operations of the reporting unit and were considered in determining the fair value of the reporting unit. Indefinite lived intangible assets are also tested at least annually for impairment using a fair value approach.
Long-Lived Assets |
Long-lived assets of the Company, including amortizable intangibles, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. Management also reevaluates the periods of amortization of long-lived assets to determine whether events and circumstances warrant revised estimates of useful lives. When such events or changes in circumstances occur, the Company tests for impairment by comparing the carrying value of the long-lived asset to the estimated undiscounted future cash flows expected to result from use of the asset and its eventual disposition. If the sum of the expected undiscounted future cash flows is less than the carrying amount of the asset, the Company would recognize an impairment loss. The amount of the impairment loss will be determined by comparing the carrying value of the long-lived asset to the present value of the net future operating cash flows to be generated by the asset.
Deferred Financing Fees |
Deferred financing fees relate to direct costs paid by the Company in connection with its financing agreements. These costs are deferred and are amortized on an effective interest basis over the term of the related debt. Amortization of deferred financing fees charged to interest expense for the years ended December 31, 2002, 2003 and 2004 was $1,381, $1,436 and $3,808, respectively.
67
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
2. Summary of Significant Accounting Policies — (Continued)
Property and Equipment |
Property and equipment are stated at cost, net of accumulated depreciation, and depreciated over the estimated useful lives of the related assets. Depreciation is provided principally on the straight-line method for financial reporting purposes and on accelerated methods for income tax purposes. Leasehold improvements are depreciated over the shorter of their useful life or the respective lease term.
Revenue Recognition |
Subscriptions are recorded as deferred revenue when received and recognized as income over the term of the subscription. Sales of books, tests and other items are generally recognized as revenue upon shipment, net of an allowance for returns. Advertising revenues are recognized as income on the issue date, net of provisions for rebates. Revenues on sales of books to certain distributors are recognized when the Company’s products are sold by the distributors to their customers, net of an allowance for returns. Consigned inventory associated with sales to distributors is not significant at December 31, 2003 and 2004.
In November 2002, the Emerging Issues Task Force (“EITF”) reached a consensus on EITF No. 00-21, “Accounting for Revenue Arrangements with Multiple Element Deliverables.” The issue addresses how to account for arrangements that may involve the delivery or performance of multiple products, services and/or rights to use assets. Revenue arrangements with multiple deliverables should be divided into separate units of accounting if the deliverables in the arrangement meet certain criteria. Arrangement consideration should be allocated among the separate units of accounting based on their relative fair values. This consensus is applicable to agreements entered into in quarters beginning after June 15, 2003. Additionally, companies were permitted to apply the consensus guidance to all existing arrangements as a cumulative effect of a change in accounting principle. The adoption of EITF 00-21 during 2003 did not have a significant impact on the Company’s consolidated financial statements.
For contracts with multiple obligations (e.g., deliverable and undeliverable products, and other post contract support), the Company allocates revenue to each component of the contract based on objective evidence of its fair value or for products not yet being sold separately, the price established by management for the item when it will be sold separately. The Company recognizes revenue allocated to undelivered products when the criteria for product revenue set forth above are met.
Licensing revenue is recorded in accordance with royalty agreements at the time licensed materials are available to the licensee or when the licensee reports sales of licensed products and collections are reasonably assured.
Revenue is recognized for periodical subscriptions when the issue is shipped and available to the subscribers.
The Company recognizes revenues from the sale of its software products in accordance with the provisions of SOP 97-2, “Software Revenue Recognition,” (“SOP 97-2”) as amended by SOP 98-9, “Software Revenue Recognition, with Respect to Certain Transactions.” Under SOP 97-2, the Company recognizes revenue for software sales upon shipment of the product, provided collection of the receivable is probable, payment is due within one year and the fee is fixed or determinable. If an acceptance period is required, revenues are recognized upon the earlier of customer acceptance or the expiration of the acceptance period. If significant post-delivery obligations exist, revenues are deferred until no significant obligations remain. Revenue from service contracts, instruction and user training is recognized ratably as the services are performed. Software hosting services and post-contract support is recognized ratably over the term of the related contract. Deferred revenue represents the Company’s obligation to perform under signed contracts for which it has been paid. The Company also enters into lease financing arrangements for its software products and services. These leases are immediately assigned to a third-party with no recourse to the Company. The
68
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
2. Summary of Significant Accounting Policies — (Continued)
Company retains no risk in these arrangements and has no history of granting concessions related to the arrangements. Accordingly, the Company recognizes revenue upon delivery of its products and services under these lease arrangements.
In addition, SOP 97-2 generally requires that revenue from software arrangements involving multiple elements be allocated among each element of the arrangement based on the relative fair values of the elements, such as software licenses, post-contract customer support, installation or training. Furthermore, SOP 97-2 requires that revenue be recognized as each element is delivered and the Company has no significant performance obligations remaining. The Company’s multiple element arrangements generally consist of a software license, training and post-contract support. Certain of the Company’s multiple element arrangements also may include hosting of software licensed to the customer. The Company’s multiple element arrangements containing hosting services provide the customer with the contractual right to take possession of the software at any time during the hosting period without significant penalty.
Software revenues in such multiple element arrangements are recognized based on the residual method. The Company allocates the aggregate revenue from multiple element arrangements to each element based on vendor specific objective evidence. The Company has established vendor specific objective evidence for hosting, training and post contract support as it sells hosting services, training and post-contract customer support independent of multiple element agreements. Customers are charged standard prices for the hosting, training and post-contract customer support and these prices do not vary significantly from customer to customer.
If the Company enters into a multiple element agreement where vendor specific objective evidence of fair value for each element of the arrangement does not exist, all revenue from the arrangement is deferred until all elements of the arrangement are delivered.
Comprehensive Loss |
SFAS 130 “Reporting Comprehensive Income,” established standards for reporting and displaying of comprehensive income and its components (revenue, expenses, gains and losses) in a full set of general-purpose financial statements. The components of the Company’s other comprehensive income (loss) consist solely of minimum pension liability adjustments.
Income Taxes |
The Company accounts for income taxes in accordance with SFAS 109, “Accounting for Income Taxes,” which requires the recognition of deferred tax liabilities and assets for the expected future tax consequences of temporary differences between the carrying amounts and the tax basis of assets and liabilities. A valuation allowance is required to offset any net deferred tax assets if, based upon the available evidence, it is more likely than not that some or all of the deferred tax asset will not be realized (see Note 16).
Prepublication and Direct-Response Advertising Costs |
Marketing, selling, distribution, editorial, and other general and administrative expenses are generally expensed as incurred. Certain editorial costs for long-lived product lines are deferred and amortized using both straight-line and accelerated methods over periods ranging from three to ten years. Capitalized editorial costs are recorded as prepublication costs. As of December 31, 2003 and 2004, other assets in the accompanying consolidated balance sheets, include prepublication costs of $22,215 and $24,686 (net of accumulated amortization), respectively. Accumulated amortization of prepublication costs at December 31, 2003 and 2004 was $15,098 and $21,383, respectively. Amortization of prepublication costs, which is
69
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
2. Summary of Significant Accounting Policies — (Continued)
included in depreciation and amortization on the accompanying consolidated statements of operations, was $3,882, $5,720 and $6,486 for the years ended December 31, 2002, 2003 and 2004, respectively.
Advertising and subscription acquisition costs are expensed the first time the advertising takes place, except for direct-response advertising, the primary purpose of which is to elicit sales from customers who can be shown to have responded specifically to the advertising and that results in probable future economic benefits. Direct-response advertising consists of product promotional mailings, catalogs and subscription promotions. These direct-response advertising costs are capitalized and amortized over the estimated period of future benefit using a ratio of current period revenues to total current and estimated future period revenues. The amortization periods range from ten months to thirty months subsequent to the promotional event. Amortization of direct-response advertising costs is included in marketing and selling expenses on the accompanying consolidated statements of operations. As of December 31, 2003 and 2004, other assets on the accompanying balance sheets, include direct-response advertising costs, of $5,761 and $5,498 (net of amortization), respectively. Accumulated amortization of direct-response advertising costs at December 31, 2003 and 2004 was $8,219 and $13,275, respectively. Amortization of direct-response advertising costs, which is included in marketing and selling on the accompanying consolidated statements of operations, was $7,430, $6,606 and $8,091 for the years ended December 31, 2002, 2003 and 2004, respectively.
Stock-Based Compensation |
Stock-based compensation arrangements with employees are accounted for using the intrinsic value method in accordance with the provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”). The Company applies SFAS 123, “Accounting for Stock-Based Compensation and Related Interpretations” (“SFAS 123”) for stock-based compensation arrangements with non-employees. The Company applies the additional disclosure requirements of SFAS 123, as amended by SFAS 148 “Accounting for Stock-Based Compensation — Transition and Disclosure,” for employee stock arrangements.
At December 31, 2002, 2003 and 2004, the Company has one stock-based employee compensation plan, which is described more fully in Note 17. During 2002, 2003 and 2004 the Company recorded stock-based employee compensation of $248, $288 and $0 related to the repurchase by the Company of redeemable common stock from certain terminated employees.
The following table details the effect on net loss had compensation expense for stock-based compensation arrangements with employees been recorded based on the fair value method under SFAS 123, as amended.
| Year Ended December 31, |
||||||||||
| 2002 | 2003 | 2004 | ||||||||
Net loss, as reported |
$ | (22,085 | ) | $ | (7,434) | $ | (71,403) | |||
Add: Stock-based employee compensation |
248 | 288 | — | |||||||
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects |
(431) | (423) | (9) | |||||||
Pro forma net loss |
$ | (22,268 | ) | $ | (7,569) | $ | (71,412) | |||
The Company has outstanding stock options issued to certain of its executives that are required to be accounted for as variable options. During 2002, 2003 and 2004, no compensation expense was recognized for these options as the fair market value of the Company’s common stock, as estimated by the Company’s Board of Directors, was less than the exercise price of these options.
70
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
2. Summary of Significant Accounting Policies — (Continued)
Concentration of Credit Risk |
The Company’s customers include schools and other institutions. Accounts receivable are generally unsecured and a provision for estimated doubtful accounts is provided. There are no concentrations of business transacted with a particular customer or supplier, nor concentrations of revenue from a particular service or geographic area.
Recent Accounting Pronouncements |
In January 2003, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 46, “Consolidation of Variables Interest Entities (“FIN 46”). FIN 46 clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. In December 2003, the FASB issued FIN No. 46 (Revised) (“FIN 46R”) to address certain FIN 46 implementation issues. This interpretation requires that the assets, liabilities, and results of activities of a Variable Interest Entity (“VIE”) be consolidated into the financial statements of the enterprise that is the primary beneficiary of the VIE. FIN 46R also requires additional disclosures by primary beneficiaries and other significant variable interest holders. This interpretation was effective no later than the end of the first interim or reporting period ending after March 15, 2004, except for those VIE’s that are considered to be special purpose entities, for which the effective date is no later than the end of the first interim or annual reporting period ending after December 15, 2003. The adoption of FIN 46R, effective March 31, 2004, did not have any effect on the Company’s consolidated financial position or results of operations.
In April 2003, the FASB issued Statements of Financial Accounting Standards (“SFAS”) No. 149 “Amendment of Statement 133 on Derivative Instruments and Hedging Activities” (“SFAS 149”), which amends and clarifies accounting for derivative instruments, and for hedging activities under SFAS 133. Specifically, SFAS 149 requires that contracts with comparable characteristics be accounted for similarly. Additionally, SFAS 149 clarifies the circumstances in which a contract with an initial net investment meets the characteristics of a derivative and when a derivative contains a financing component that requires special reporting in the statement of cash flows. This Statement is generally effective for contracts entered into or modified after June 30, 2003 and its adoption did not have any effect on the Company’s consolidated financial position or results of operations.
In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity” (“SFAS 150”). SFAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). Many of those instruments were previously classified as equity. This statement was effective for the Company beginning January 1, 2004. For financial instruments created before the issuance date of this statement and still existing at the beginning of the interim period of adoption, transition shall be achieved by reporting the cumulative effect of a change in an accounting principle by initially measuring the financial instruments at fair value or other measurement attribute required by this statement. The adoption of this statement required the Company to reclassify its 15% Senior Preferred Stock (“15% Senior Preferred”) from the mezzanine section of the balance sheet to long-term liabilities. Effective January 1, 2004 dividend payments for the 15% Senior Preferred Stock are recorded as interest expense in the consolidated statement of operations. The adoption of this statement did not result in any adjustment to the book value of its 15% Senior Preferred as of January 1, 2004, as book value approximated fair value at January 1, 2004. For the year ended December 31, 2004 the Company recognized $21,994 of accrued dividends and $959 of accretion on the 15% Senior Preferred as interest expense.
71
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
2. Summary of Significant Accounting Policies — (Continued)
In December 2003, the FASB issued SFAS No. 132 (Revised 2003), “Employers’ Disclosures about Pensions and Other Postretirement Benefits, an amendment of FASB Statements No. 87, 88 and 106.” It requires additional disclosures to those in the original Statement 132 about the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined benefit post-retirement plans. The majority of the provisions of this statement apply to financial statements issued for fiscal years ending after December 15, 2003. The Company adopted such disclosure provisions.
In March 2004, the Emerging Issues Task Force of the FASB reached a consensus on Issue No. 03-1, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments (“Issue 03-1”). Issue 03-1 provides guidance for determining when an investment is other-than-temporarily impaired specifically, whether an investor has the ability and intent to hold an investment until recovery. In addition, Issue 03-1 contains disclosure requirements about impairments that have not been recognized as other than temporary for investments. Issue 03-1 also requires the investor to disclose investments with unrealized losses that have not been recognized as other-than-temporary impairments. The disclosures are effective in annual financial statements for fiscal years ending after December 15, 2003, for investments accounted for under statements 115 and 124. For all other investments within the scope of this Issue, the disclosures are effective in annual financial statements for fiscal years ending after June 15, 2004. The additional disclosures for cost method investments are effective for fiscal years ending after June 15, 2004. In September 2004, the FASB delayed the effective date of the measurement and recognition guidance of Issue 03-1 until the FASB issues FASB Staff Position 03-1a. The adoption of this consensus is not expected to have any impact on the Company’s consolidated results of operations or financial position.
In November 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 151, “Inventory Costs — An Amendment of ARB No. 43, Chapter 4”. SFAS 151 clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). SFAS 151 requires that those items be recognized as current period charges. In addition, SFAS 151 requires that the allocation of fixed production overheads to the costs of conversion be based on the normal capacity of production facilities. The provisions of SFAS 151 are effective for inventory costs incurred during fiscal years beginning after June 15, 2005. Companies must apply the standard prospectively. The adoption of SFAS No. 151 is not expected to have a material impact on the Company’s consolidated results of operations or financial position.
In December 2004, the FASB issued FAS No. 123R, “Share-Based Payment” (“SFAS 123R”), a revision of SFAS 123. The revised statement clarifies the accounting for transactions in which an entity exchanges its equity instruments for goods or services. Specifically, the statement eliminates the use of intrinsic value method of accounting provided for in APB 25, Accounting for Stock Issued to Employees, and requires entities to recognize the cost of equity instruments granted to employee using the grant-date fair value of the award. The provisions of SFAS 123R are affective for the Company beginning January 1, 2006. The adoption of SFAS 123R is not expected to have a material impact on the Company’s consolidated financial position or results of operations.
In December 2004, the FASB issued SFAS No. 153 “Exchange of Non-monetary Assets, an Amendment of APB Opinion No. 29, Accounting for Non-monetary Transactions.” SFAS No. 153 addresses the measurement of exchanges of non-monetary assets and requires that such exchanges be measured at fair value, with limited exceptions. SFAS No. 153 Amends APB Opinion No. 29 by eliminating the exception that required non-monetary exchanges of similar productive assets to be recorded on a carryover basis. The provisions of SFAS No. 153 are effective for non-monetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The adoption of SFAS No. 153 is not expected to have a material impact on the Company’s consolidated financial position or results of operations.
72
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
3. Segment Information
The Company has four reporting segments: Weekly Reader, World Almanac, American Guidance Service (“AGS”), and Compass/ChildU(“Compass/ChildU”). This classification reflects the nature of the Company’s organizational structure by which the chief operating decision-maker reviews and assesses the operating performance of the reporting segment and allocates corporate resources.
| • | Weekly Reader is a publisher of classroom periodicals, grade-specific workbooks and custom publisher of instructional materials paid for by various sponsors. |
| • | World Almanac publishes print reference materials sold into the trade channel; publishes nonfiction and fiction children’s books under three imprints for K-12 students; publishes print and electronic reference materials sold into the library channel; and distributes third-
party books targeted for K-12 students through its catalogs. |
| • | AGS is a publisher of testing and assessment products and supplemental instructional materials. AGS products are sold into the school channel. Testing and assessment products are primarily for K-12 students and supplemental instructional materials are primarily for low-
performing students in middle and secondary schools. |
| • | Compass/ChildU produce research-based technology learning solutions, including web-based e-learning solutions that bring into being educational assessment, curriculum, reporting and management tools for grades Pre-K through 12, all of which are aligned to local,
state and national standards. |
73
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
3. Segment Information — (Continued)
Information regarding the operations of the Company’s reporting segments is set forth below. WRC Media Inc. related expenses and assets that are not allocable to the other operating segments are included in corporate. WRC Media evaluates segment performance based on several factors, of which the primary financial measure is operating income (loss).
| Weekly Reader |
World Almanac |
AGS | Compass/ ChildU |
Corporate | Eliminations | Total | ||||||||||||||||
2004 |
||||||||||||||||||||||
Net Revenue |
$ | 45,670 | $ | 45,361 | $ | 70,834 | $ | 47,603 | — | — | $ | 209,468 | ||||||||||
Segment income / (loss) |
6,730 | (32,908 | ) | 20,538 | (6,473 | ) | (41,179 | ) | 37,424 | (15,868 | ) | |||||||||||
Depreciation and amortization |
453 | 2,092 | 7,330 | 7,263 | 3,763 | — | 20,901 | |||||||||||||||
Restructuring and other non-recurring items |
— | — | (7 | ) | 1,552 | (8 | ) | — | 1,537 | |||||||||||||
Impairment of goodwill and intangibles |
— | 37,424 | — | — | — | — | 37,424 | |||||||||||||||
Assets |
57,337 | 102,398 | 209,803 | 50,363 | 227,916 | (258,261 | ) | 389,556 | ||||||||||||||
Goodwill and indefinite lived |
||||||||||||||||||||||
intangibles (including allocated amounts) |
52,775 | 33,210 | 124,133 | 17,554 | — | — | 227,672 | |||||||||||||||
Capital expenditures |
249 | 698 | 321 | 5,543 | 29 | 6,840 | ||||||||||||||||
2003 |
||||||||||||||||||||||
Net Revenue |
46,269 | 49,189 | 56,652 | 50,593 | — | — | 202,703 | |||||||||||||||
Segment income / (loss) |
9,002 | 7,360 | 14,225 | (1,235 | ) | (2,933 | ) | — | 26,419 | |||||||||||||
Depreciation and amortization |
702 | 2,264 | 7,781 | 7,785 | 3,763 | — | 22,295 | |||||||||||||||
Restructuring and other non-recurring items |
— | 21 | (41 | ) | 1,054 | (16 | ) | — | 1,018 | |||||||||||||
Non-cash items |
— | — | — | — | 300 | — | 300 | |||||||||||||||
Assets |
57,282 | 99,116 | 183,183 | 59,021 | 249,688 | (228,083 | ) | 420,207 | ||||||||||||||
Goodwill and indefinite lived |
||||||||||||||||||||||
intangibles (including allocated amounts) |
52,775 | 70,634 | 124,133 | 17,554 | — | — | 265,096 | |||||||||||||||
Capital expenditures |
273 | 141 | 335 | 5,624 | 10 | 6,383 | ||||||||||||||||
2002 |
||||||||||||||||||||||
Net Revenue |
44,794 | 52,385 | 57,876 | 52,818 | — | — | 207,873 | |||||||||||||||
Segment income / (loss) |
9,129 | 11,138 | 14,032 | (8,801 | ) | (6,999 | ) | — | 18,499 | |||||||||||||
Depreciation and amortization |
848 | 1,622 | 6,661 | 8,994 | 3,807 | — | 21,932 | |||||||||||||||
Restructuring and other non-recurring items |
214 | 691 | 496 | 4,314 | 2,879 | 8,594 | ||||||||||||||||
Assets |
60,350 | 92,916 | 166,842 | 62,842 | 259,140 | (203,454 | ) | 438,636 | ||||||||||||||
Goodwill and indefinite lived |
||||||||||||||||||||||
intangibles (including allocated amounts) |
52,775 | 70,634 | 124,133 | 17,554 | — | — | 265,096 | |||||||||||||||
Capital expenditures |
456 | 184 | 440 | 4,645 | 22 | 5,747 | ||||||||||||||||
74
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
4. Accounts Receivable
Accounts receivable at December 31, 2003 and 2004 are as follows:
| 2003 | 2004 | ||||||
Accounts receivable |
$ | 32,546 | $ | 33,371 | |||
Less: |
|||||||
Allowance for doubtful accounts |
(1,750 | ) | (1,428 | ) | |||
Allowance for sales returns |
(769 | ) | (1,383 | ) | |||
| $ | 30,027 | $ | 30,560 | ||||
5. Inventories
Inventories at December 31, 2003 and 2004 are as follows:
| 2003 | 2004 | ||||||
Finished goods |
$ | 16,533 | $ | 16,415 | |||
Raw materials |
119 | 139 | |||||
| $ | 16,652 | $ | 16,554 | ||||
6. Capitalized Software
Capitalized software at December 31, 2003 and 2004 are as follows:
| Life | 2003 | 2004 | ||||||||
Capitalized software |
2-4 Years | $ | 16,554 | $ | 21,920 | |||||
Less — accumulated amortization |
(9,261 | ) | (11,916 | ) | ||||||
| $ | 7,293 | $ | 10,004 | |||||||
7. Goodwill
On January 1, 2002, the Company adopted SFAS 142, “Goodwill and Other Intangible Assets.” The Company completed the transitional impairment tests on its goodwill and indefinite lived intangibles during the second quarter ended June 30, 2002. The previous method for determining impairment prescribed by SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long Lived Assets to be Disposed Of,” utilized an undiscounted cash flow approach for the impairment assessment, while SFAS No. 142 utilizes a fair value approach. The Company has four reporting units with goodwill and indefinite lived intangible assets. Goodwill and indefinite lived intangible assets were tested for impairment at the reporting unit level. The Company’s measurement of fair value of goodwill and indefinite lived intangible assets was based on evaluations utilizing both a discounted cash flow, as well as a market approach. These evaluations utilized the best information available in the circumstances, including reasonable and supportable assumptions and projections. Certain key assumptions utilized, including changes in revenue, operating expenses, working capital requirements and capital expenditures including prepublication costs, are based on estimates related to the Company’s strategic initiatives and current market conditions. Such assumptions also are consistent with those utilized in the Company’s annual planning process. The Company’s discounted cash flow evaluation used a discount rate that corresponds to the Company’s weighted-average cost of capital. This discount rate assumed was consistent with that used for investment decisions and takes into account the specific and detailed operating plans and strategies of the Company. The market data utilized represented valuations of comparable companies. Collectively, these evaluations were management’s best estimate of projected future cash flows and the market values of its reporting units.
75
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
7. Goodwill — (Continued)
The Company’s transition analysis indicated that there was no impairment of goodwill and indefinite lived intangible assets as of January 1, 2002. The Company is required to perform impairment tests on an annual basis, or between yearly tests under certain circumstances for goodwill and indefinite lived intangibles. The Company performed its annual impairment tests during the fourth quarter of 2004. This analysis indicated an impairment in the value of goodwill and intangible assets at the World Almanac reporting unit as a result of the current trends and competitive environment in which the World Almanac businesses operate. Accordingly, impairment charges of $36,079 and $1,345, respectively, were recorded for goodwill and intangible assets. The carrying value of the company’s Goodwill and Indefinite Lived Intangible assets at December 31, 2003 and 2004 are as follows:
| 2003 | 2004 | ||||||
Goodwill |
$ | 241,324 | $ | 205,245 | |||
Long Lived Assets — Trademarks and Copyrights |
23,772 | 22,427 | |||||
| $ | 265,096 | $ | 227,672 | ||||
The Company recorded non-cash deferred income tax expense of approximately $5,200 on January 1, 2002, for taxable temporary differences that will not reverse prior to expiration of the Company’s net operating loss carryforward period. The non-cash charge of $5,200 on January 1, 2002 was recorded to increase the valuation allowance related to the deferred tax asset associated with the Company’s net operating losses. Historically, the Company did not need a valuation allowance for the portion of its net operating loss equal to the excess of tax over book amortization on tax-deductible goodwill and trademarks since the liability was expected to reverse during the carryforward period of the net operating losses. As a result of the adoption of SFAS 142, the timing of the reversal of this liability is indefinite and can no longer be offset by the Company’s net operating loss carryforwards. While book amortization of tax-deductible goodwill and long lived assets ceased on January 1, 2002, the Company continues to amortize these assets for tax purposes. In 2002 and 2003, the Company recorded deferred tax liabilities as the taxable temporary differences related to the amortization of these assets will not reverse prior to the expiration period of the Company’s deductible temporary differences as no assets were sold or impaired in those years. Accordingly, the Company recorded an additional $2,700 and $2,900 to increase deferred tax liabilities for the years ended December 31, 2002 and 2003, respectively. The Company recorded an income tax benefit of $2,507 for the year ended December 31, 2004, primarily resulting from the impairment of certain assets which reduced the deferred tax liability as of December 31, 2004.
8. Other Intangible Assets
The gross carrying amount and accumulated amortization of the Company’s intangible assets other than goodwill and indefinite lived intangible are as follows:
| December 31, 2003 |
December 31, 2004 |
|||||||||||||||||||||
| Useful Lives | Gross | Accumulated Amortization |
Net | Gross | Accumulated Amortization |
Net | ||||||||||||||||
Customer Lists |
6-15 yrs | $ | 48,600 | $ | (24,948 | ) | $ | 23,652 | $ | 48,600 | $ | (30,784 | ) | $ | 17,816 | |||||||
Copyrights |
10-20 yrs | 30,800 | (6,462 | ) | 24,338 | 30,800 | (8,033 | ) | 22,767 | |||||||||||||
Software |
3-5 yrs | 14,789 | (10,027 | ) | 4,762 | 14,789 | (12,417 | ) | 2,372 | |||||||||||||
Trademark |
4-10 yrs | 3,720 | (3,602 | ) | 118 | 200 | (102 | ) | 98 | |||||||||||||
Distributor relationships |
6 yrs | 700 | (482 | ) | 218 | 700 | (598 | ) | 102 | |||||||||||||
Total: |
$ | 98,609 | $ | (45,521 | ) | $ | 53,088 | $ | 95,089 | $ | (51,934 | ) | $ | 43,155 | ||||||||
During the year ended December 31, 2004, the Company wrote-off $3,520 of fully amortized trademarks that are no longer being utilized.
76
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
8. Other Intangible Assets — (Continued)
Included in other intangible assets, are trademarks and copyrights not subject to amortization, for which the total carrying amount at December 31, 2003 and 2004 was $23,772 and $22,427, respectively.
Amortization of intangibles for the years ended December 31, 2002, 2003 and 2004 was $12,771, $11,827 and $9,929, respectively, and is included in amortization of intangible assets on the consolidated statements of operations.
The estimated amortization expense for intangible assets subject to amortization for the next five years is as follows:
2005 |
$ | 9,197 | ||
2006 |
6,843 | |||
2007 |
4,598 | |||
2008 |
3,461 | |||
2009 |
3,253 | |||
Thereafter |
$ | 15,803 |
9. Property and Equipment
Property and equipment at December 31, 2003 and 2004 are as follows:
| Life | 2003 | 2004 | ||||||||
Machinery, equipment and computer equipment |
3-10 Years | $ | 10,628 | $ | 9,056 | |||||
Leasehold improvements |
3-15 Years | 3,528 | 2,592 | |||||||
Furniture and fixtures |
3-10 Years | 4,112 | 3,579 | |||||||
Internal use software |
5 Years | 2,392 | 2,649 | |||||||
Total |
20,660 | 17,876 | ||||||||
Less- accumulated depreciation and amortization |
(14,868 | ) | (12,994 | |||||||
Property and equipment, net |
$ | 5,792 | $ | 4,882 | ||||||
Depreciation and amortization expense for the years ended December 31, 2002, 2003 and 2004 was $3,065, $2,280 and $1,830, respectively.
10. Other Assets
Other assets at December 31, 2003 and 2004 are as follows:
| 2003 | 2004 | ||||||
Prepublication costs, net |
$ | 22,215 | $ | 24,686 | |||
Direct response advertising costs, net |
5,761 | 5,498 | |||||
Other |
1,920 | 1,434 | |||||
| $ | 29,896 | $ | 31,618 | ||||
During the year ended December 31, 2002, the Company had an investment in ThinkBox, Inc., which was accounted for using the equity method. During 2002, the Company recognized equity method losses of $3,064, related to its investment in ThinkBox.
77
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
11. Other Accrued Liabilities
Other accrued liabilities at December 31, 2003 and 2004 are as follows:
| 2003 | 2004 | ||||||
Rabbi Trust (Note 21) |
$ | 1,006 | $ | 734 | |||
Royalties |
1,264 | 1,926 | |||||
Accrued interest payable (Note 12) |
3,113 | 4,167 | |||||
Pension liability (Note 19) |
3,987 | 2,657 | |||||
Accrued restructuring costs |
3,275 | 3,264 | |||||
Taxes payable, other than income |
369 | 357 | |||||
Management fees |
650 | 475 | |||||
Other |
3,502 | 3,109 | |||||
| $ | 17,166 | $ | 16,689 | ||||
12. Long-Term Debt
At December 31, 2003 and 2004, long-term debt consists of the following:
| 2003 |
2004 |
||||||||||||||||||||||||
Debt Instrument |
Face Value |
Unamortized Discount |
Principal Payments |
Carrying Value |
Face Value |
Unamortized Discount |
Principal Payments |
Carrying Value |
|||||||||||||||||
Senior Subordinated Notes (a) |
$ | 152,000 | $ | 4,276 | $ | — | $ | 147,724 | $ | 152,000 | $ | 3,762 | $ | — | $ | 148,238 | |||||||||
Senior Bank- Term A (b) |
20,150 | — | 6,618 | 13,532 | — | — | — | — | |||||||||||||||||
Senior Bank- Term B (b) |
96,750 | — | 1,216 | 95,534 | — | — | — | — | |||||||||||||||||
Senior Bank- New Term A (b) |
— | — | |||||||||||||||||||||||
| 9,767 | — | 155 | 9,612 | — | — | ||||||||||||||||||||
Revolving Credit (b) |
5,000 | — | — | 5,000 | — | — | — | — | |||||||||||||||||
Second-Lien Facility |
— | — | — | — | 145,000 | — | — | 145,000 | |||||||||||||||||
Total debt |
283,667 | 4,276 | 7,989 | 271,402 | 297,000 | 3,762 | — | 293,238 | |||||||||||||||||
Less — current portion |
8,477 | — | — | 8,477 | — | — | — | — | |||||||||||||||||
Long-term debt |
$ | 275,190 | $ | 4,276 | $ | 7,989 | $ | 262,925 | $ | 297,000 | $ | 3,762 | $ | — | $ | 293,238 | |||||||||
| (a) | In connection with the recapitalization of the Company in 1999, the Company, Weekly Reader and CompassLearning were all co-issuers of 152,000 units consisting of $152,000 in aggregate principal amount of 12 3/4% Senior Subordinated Notes (the Notes) due 2009 and
205,656 shares of common stock. Interest on the Notes is payable semi-annually, on May 15 and November 15. During each year ended December 31, 2002, 2003 and 2004, $19,380 of interest was paid on the Notes. |
Based upon an independent valuation, $144,400 was allocated to the value of the Notes while $3,711 was the value ascribed to the common stock. The Notes were issued net of a $5,807 discount, which is being accreted through maturity using the effective interest method. |
On or after November 15, 2004, the Company may redeem the Notes at a redemption price of 106.375% of the principal amount, plus accrued interest thereon decreasing annually to 100% in 2007 and thereafter. |
The Notes are unconditionally guaranteed by the restricted subsidiaries of the Company (Weekly Reader, CompassLearning and ChildU), as defined in the Credit Agreement, as amended. |
78
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
12. Long-Term Debt — (Continued)
| (b) | The Senior Bank Credit Facilities are comprised of the $30,000 revolving credit facility (as amended) maturing in 2008, the $31,000 term loan A facility maturing in 2005, the $100,000 term loan B facility maturing in 2006 and the $10,000 new term loan A facility maturing in
2006. During 2000, the Company applied for and received an annually renewable stand-by letter of credit in the amount of $2,000 in connection with a real estate lease entered into by the Company. While this letter of credit is in effect, the Company’s available borrowing under
the revolving credit facility is reduced by $2,000. As of December 31, 2004 there had been no drawings against this letter of credit. As of December 31, 2004, there was a no outstanding balance under the revolving credit facility. The term loan A facility, the term loan B facility
and the new term loan A facility amortize in quarterly installments. On March 29, 2004, the Company paid off its outstanding balances of its term loan A, term loan B and new term loan A. |
On March 29, 2004, the Company refinanced all of its term loans under its Senior Bank Credit Facilities (the “First-Lien Facility”) with a $145,000 senior, second-priority lien secured financing that was provided to the Company pursuant to a term loan facility (the “Second-Lien Facility”). The proceeds of the Second-Lien Facility were used (i) to refinance in full all term loans outstanding under the First-Lien Facility, (ii) to pay fees and expenses related to the Second-Lien Facility and all transactions contemplated in connection therewith and (iii) for general corporate purposes of the Company.
All payment obligations under the Second-Lien Facility are secured by a second-priority lien on the collateral securing the First-Lien Facility; provided that all obligations under the Second-Lien Facility will rank equally in right of payment with all payment obligations under the First-Lien Facility and will not otherwise be subordinated in any respect to the First-Lien Facility. The final maturity of the Second-Lien Facility is March 29, 2009. At the Company’s option, the loans will bear interest at either the Administrative Agent’s (i) alternate base rate (“Base Rate Loans”) or (ii) reserve-adjusted LIBO rate (“LIBO Rate Loans”) plus, in each case, the “Applicable Margin” (as defined). Applicable Margin means, with respect to (i) Base Rate Loans, a rate of 4.00% per annum and (ii) LIBO Rate Loans, a rate of 5.00% per annum. At December 31, 2004, outstanding loans under the Second-Lien Credit facility had an interest rate of 6.76%.
In addition to paying interest on outstanding loans under its credit facilities, the Company is required to pay a commitment fee to the lenders associated with the revolving credit facility in respect to the unused commitments thereunder at a rate of 0.5% per annum (subject to performance-based step downs). Commitment fees paid for unused revolver commitments for the year ended December 31, 2002, 2003 and 2004 were approximately $97, $81, and $114, respectively.
The Second-Lien Facility is subject to mandatory prepayment with:
| • | the proceeds of the incurrence of certain indebtedness |
| • | the proceeds of certain asset sales or other dispositions |
| • | a change in control |
| • | annually, 50% of the Company’s excess cash flow (as defined) from the prior year. |
The Second-Lien Facility and the Senior Subordinated Notes provide for certain restrictions, including restrictions on asset sales, dividend payments, additional indebtedness, capital expenditures and payments for restricted investments. In addition, the Second-Lien Facility provides for the maintenance of a financial covenant, a maximum ratio (the “Senior Leverage Ratio”) of Senior Secured Debt to trailing four quarter EBITDA (as defined therein) not to exceed 4.25:1.00 for any fiscal quarter, except the fiscal quarter ended June 30, 2005 for which the Senior Leverage Ratio shall not exceed 4.50:1.00, in each case to be tested on the last day of each fiscal quarter and computed for the Company. The Second-Lien Facility also limits the amount of capital expenditures, including all capitalized software development costs and capitalized prepublication costs, to $21.0 million for each year. To the extent permitted, if capital expenditures in any
79
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
12. Long-Term Debt — (Continued)
year are less than $21.0 million, the remaining permitted amount may be carried forward to the next succeeding year. In connection with entering into the Second-Lien Facility, the Company entered into an amendment and restatement of its First-Lien Facility, which now consists solely of a $30,000 revolving credit facility.
The First-Lien Facility, as amended and restated, has a maturity of December 29, 2008, and has one financial covenant, a Senior Leverage Ratio of senior secured debt to trailing four quarter EBITDA (as defined therein) not to exceed 4.00:1.00 for any fiscal quarter, except the fiscal quarter ended June 30, 2005 for which the Senior Leverage Ratio may not exceed 4.25:1.00, in each case to be tested on the last day of the fiscal quarter and computed for the Company. The First-Lien Facility also limits the amount of capital expenditures, including all capitalized software development costs and capitalized prepublication costs, to $21.0 million for each year. To the extent permitted, if capital expenditures in any year are less than $21.0 million, the remaining permitted amount may be carried forward to the next succeeding year.
Interest on revolving loan borrowings under the First-Lien Facility bear interest at a maximum rate per annum equal to the LIBO rate as defined in the First-Lien Facility plus 3.50% or the alternate base rate as defined in the First-Lien Facility plus 2.50%, such rates are subject to adjustment on a quarterly basis based on the Company’s leverage ratio for the last four quarters.
As a result of the refinancing, the Company wrote-off the remaining balances of deferred financing costs associated with the First Lien Facility of approximately $1,914. These costs are included in interest expense, including amortization of deferred financing costs, on the consolidated statements of operations for the year December 31, 2004.
In connection with the refinancing, the Company incurred costs and expenses, primarily investment banking and legal fees, of approximately $6,661. These amounts have been recorded as deferred financing fees at December 31, 2004 and are being amortized over the term of the Second-Lien Facility using the effective interest method. During the year ended December 31, 2004, the Company recognized $1,542 of interest expense related to the amortization of deferred financing fees related to the Second-Lien Facility.
At December 31, 2004, there were no outstanding advances under the Company’s $30,000 revolving credit facility. The Company has stand-by letters of credit, renewable annually, in the amount of $2,075 of which $2,000 serves as security for a real estate lease entered into by the Company and $75 serves as security for certain surety bonds issued on behalf of the Company. The Company’s available borrowing under the revolving credit facility is reduced by any outstanding letters of credit. At December 31, 2004, the Company had, net of the $2,075 in outstanding letters of credit, $27,925 of available credit under the revolving credit facility.
Maturities of long-term debt, including unamortized discount at December 31, 2004, are as follows:
2005 |
$ | — | ||
2006 |
— | |||
2007 |
— | |||
2008 |
— | |||
2009 |
297,000 | |||
Total |
$ | 297,000 | ||
In May of 2002, the Company entered into interest rate swap, which swapped a portion of the fixed rate 12.75% notes for a floating rate. During December of 2002, the Company unwound the interest rate swap. The Company realized a gain of $1,720, on this swap, which is included in other income (expense) in the consolidated statement of operations.
80
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
12. Long-Term Debt — (Continued)
Pursuant to the terms of the First and Second-Lien Credit Agreements, the Company is required to enter into or maintain interest rate protection agreements (interest rate swaps, caps, collars or similar agreements) in a notional amount that, when taken together with the aggregate principal amount of Total Debt, as defined, subject to a fixed interest rate, is at least equal to at least 50% of the aggregate principal amount of Total Debt. On November 15, 2003, the Company entered into a one year interest rate cap agreement with a notional principal of $61,000, which caps the LIBOR based rate, as defined, on those loans at 2.5%. The interest rate protection agreement did not qualify for hedge accounting treatment and as such the Company marks to market the contract at the end of each period. This interest rate cap agreement expired November 15, 2004. Between November 15, 2004 and December 31, 2004, more than 50% of the aggregate principal amount of Total Debt is subject to a fixed interest rate. Therefore, the interest rate cap was not renewed during that period.
13. Restructuring and Other Non-Recurring Expenses
In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities” (“SFAS 146”). SFAS 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and supercedes Emerging Issues Task Force Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)”. SFAS 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred rather than the date an entity commits to an exit plan. SFAS 146 also establishes that fair value is the objective for initial measurement of the liability. The Company adopted SFAS 146 in December 2002.
In January 2002, the Company’s Board of Directors approved a restructuring plan (the “2002 Plan of Restructuring”) and accordingly, the Company incurred charges for restructuring, asset write-downs and other exit costs totaling $8,594.
The 2002 Plan of Restructuring included integration and cost reduction initiatives comprised of closure of facilities and a reduction in work force.
Pursuant to the 2002 Plan of Restructuring, 107 positions were eliminated throughout the Company. Severance and other benefit costs of approximately $3,200 relate to the elimination of these employees from the workforce. This workforce reduction primarily took place at CompassLearning but all operating units of WRC Media were impacted. Most of the workforce reductions represented administrative and back office related employees. The workforce reductions were substantially completed by January of 2003. Some benefit costs extended beyond the completion of the workforce reductions due to the Company’s contractual severance obligations to certain individuals that were paid in 2003.
Lease termination costs include future obligations under long-term non-cancelable lease agreements at facilities that were vacated following the workforce reductions. The majority of these costs consisted of the estimated lease costs, net of probable sublease income, associated with the cancellation of a portion of the Company’s lease at 512 Seventh Avenue in New York, N.Y. which expires in 2015. As a result of the facilities being vacated, certain assets were written off. All office space was vacated prior to accrual of this expense.
81
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
13. Restructuring and Other Non-Recurring Expenses — (Continued)
Components of the Company’s restructuring plans and other non-recurring expenses, including the plans initiated in 2002, are shown in the following table for 2003.
| Balance at January 1, 2003 |
Charges | Payments Incurred |
Balance at December 31, 2003 |
||||||||||
Severance and other benefits |
$ | 1,338 | $ | 221 | $ | (1,527 | ) | $ | 32 | ||||
Lease terminations |
4,915 | 605 | (2,277 | ) | 3,243 | ||||||||
Total |
$ | 6,253 | $ | 826 | $ | (3,804 | ) | $ | 3,275 | ||||
During the year ended December 31, 2003, the Company reviewed its restructuring reserve established in 2002 and increased the reserve for severance in the amount of $221 primarily related to an executive severed in 2002 and $605 for lease terminations resulting from the updating of the assumptions used in determining the fair value of the remaining lease obligations associated with facilities vacated during 2002.
Components of the Company’s 2002 restructuring plan, are shown in the following table for 2004.
| Balance at January 1, 2004 |
Charges | Payments Incurred |
Balance at December 31, 2004 |
||||||||||
Severance and other benefits |
$ | 32 | $ | (7 | ) | $ | (25 | ) | $ | — | |||
Lease terminations |
3,243 | 1,544 | (1,523 | ) | 3,264 | ||||||||
Total |
$ | 3,275 | $ | 1,537 | $ | (1,548 | ) | $ | 3,264 | ||||
During the year ended December 31, 2004, the Company reviewed its restructuring reserve established in 2002 and increased the reserve for lease terminations in the amount of $1,544 resulting from the updating of the assumptions used in determining the fair value of the remaining lease obligations associated with facilities vacated during 2002.
The restructuring reserve of $3,264 at December 31, 2004 is expected to be paid as follows: in the year 2005–$1,498, 2006 and beyond–$1,766. The restructuring reserve is included in other accrued liabilities in the consolidated balance sheet.
During the year ended December 31, 2003 the Company incurred $192 of due diligence and other costs related to an acquisition that was not completed and is not expected to be completed in the foreseeable future. These non-recurring costs have been included in the consolidated statements of operations in Restructuring costs and other non-recurring expenses.
14. Preferred Stock
15% Senior Preferred Stock |
The Company has authorized the issuance of up to 20,000,000 shares of preferred stock in one or more series as designated by the Board of Directors. In 1999, the Company issued 3,000,000 shares of 15% Senior Preferred Stock, due in 2011 (the “Senior Preferred Stock”) with a liquidation preference of $25.00 per share. The Senior Preferred Stock has no voting rights, except under certain circumstances, and shall accrue dividends at a rate of 15% per annum, subject to adjustment if the Company fails to redeem all outstanding shares of such preferred stock in connection with a mandatory redemption or change of control. Effective January 1, 2004, the Company adopted the provisions of SFAS No. 150, “Accounting for Certain Financial Instruments With Characteristics of Both Liabilities and Equity.” The adoption of this statement required the Company to reclassify its 15% Senior Preferred Stock from the mezzanine section of the balance sheet to long-term liabilities. Effective January 1, 2004, dividend payments for the 15% Senior Preferred Stock are recorded as interest expense in the consolidated statement of operations.
82
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
14. Preferred Stock — (Continued)
In connection with the issuance of the Senior Preferred Stock described above, the subsidiaries of WRC Media issued to the senior preferred stockholders, Preferred Stock Warrants, which entitle the senior preferred stockholders to acquire 422,874 shares of Weekly Reader voting common stock and 1,495 shares of CompassLearning common stock. These warrants entitle the holders to acquire 13% of voting common stock of Weekly Reader and CompassLearning at an exercise price of $0.01 per share and contain a cashless exercise provision. The warrants were immediately exercisable and expire on November 17, 2011. The Company allocated the $75,000 proceeds from the issuance of the preferred stock, based on the fair value of the securities, as follows:
Senior Preferred Stock |
$ | 63,249 | ||
Weekly Reader Warrants |
9,133 | |||
CompassLearning Warrants |
2,618 | |||
| $ | 75,000 | |||
The Senior Preferred Stock is being accreted to its redemption value using the effective interest method. Accretion for the years ended December 31, 2002, 2003 and 2004 amounted to $932, $947 and $959, respectively. Accretion for the year ended December 31, 2004 has been recorded as interest expense in the consolidated statement of operations.
Prior to December 31, 2004, or such earlier dividend date as the Company may elect, the Company will pay dividends in-kind. After December 31, 2004, dividends will be paid in cash or will continue to be paid in-kind at the option of the Company. To the extent the Company elects to continue to pay dividends in-kind after December 31, 2004 for four consecutive quarters or for six quarters in total, the preferred shareholders obtain a board of director’s seat. It is the Company’s present intention to continue to pay dividends in-kind subsequent to December 31, 2004. If the Company pays the arrearage, the preferred shareholders will lose the board of director’s seat. Accrued Senior Preferred Stock dividends for the years ended December 31, 2002, 2003 and 2004, amounted to $16,384, $18,982 and $21,994 (the 2004 dividends have been recorded as interest expense in the consolidated statement of operations), respectively. Such accrued dividends reflect penalty dividends of 0.5% for periods prior to November 17, 2001. While the Company believes that no penalty dividend is due for subsequent periods, the preferred shareholders may disagree with the Company’s conclusion. The Company may redeem the Senior Preferred Stock, including unpaid dividends, prior to November 17, 2002, or after November 17, 2004, subject to certain conditions. The Company is required to redeem, to the extent it has funds legally available, all outstanding shares of the Senior Preferred Stock on November 17, 2011.
18% Junior Participating Cumulative Convertible Preferred Stock |
The Company has designated 750,000 shares of its 20,000,000 authorized shares of preferred stock as the 18% Junior Participating Cumulative Convertible Preferred Stock series (the “Junior Preferred Stock”) par value $0.01 per share. In connection with WRC Media’s acquisition of ChildU, Inc. in 2001 and its minority investment in ThinkBox, Inc. the Company issued 343,750 shares of the Junior Preferred Stock at $40.00 per share to finance in part the ChildU acquisition and the investment in ThinkBox. The Junior Preferred Stock has a liquidation preference of $40.00 per share and accrues dividends at a rate of 18% per annum, subject to adjustment under certain conditions. Accrued Junior Preferred stock dividends for the years ended December 31, 2002, 2003 and 2004 amounted to $2,968, $3,538 and $4,220 respectively. The Junior Preferred Stock shall, with respect to dividend rights and rights on liquidation, dissolution and winding up, rank junior to the 15% Senior Preferred Stock due 2011 but rank senior to WRC Media’s common stock, par value $0.01 per share. The holders of the Junior Preferred Stock shall be entitled to vote upon any matter submitted to a vote of the holders the Company’s common stock and shall have one vote for each share of
83
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
14. Preferred Stock — (Continued)
Junior Preferred Stock held. Each share of Junior Preferred is convertible, at any time at the option of the holder into an equal number of shares of the Company’s common stock. The Junior Preferred Stock is also subject to conversion, at the Company’s option, upon the consummation of an initial public offering by the Company of its common stock. The shares of the Junior Preferred Stock are not redeemable.
15. Common Stock Subject to Redemption
In connection with the recapitalization of Weekly Reader in 1999 and merger with the Company, the Company sold 68,008 shares of common stock to certain executives at a price of $18.60 per share. During the year ended December 31, 2002, 11,559, common shares were repurchased from a former executive for $463. The excess of the repurchase price of these shares over the issuance price in the amount of $248, in 2002 was recognized as compensation expense. Upon termination of employment, for other than cause, the executives can require the Company to repurchase the shares.
16. Income Taxes
At December 31, 2004, the Company had available net operating loss carryforwards (NOLs) of approximately $212,860. No tax benefit has been reflected in the accompanying financial statements as the utilization of the operating loss carryforwards is not considered more likely than not. Accordingly, this amount has been fully offset by a valuation allowance.
The NOLs are scheduled to expire in the following years:
| Amount | |||
2009 |
$ | 4,995 | |
2010 |
17,890 | ||
2011 |
14,006 | ||
2017 |
11,620 | ||
2018 |
2,945 | ||
2019 |
15,879 | ||
2020 |
52,638 | ||
2021 |
21,828 | ||
2022 |
32,232 | ||
2023 |
18,272 | ||
2024 |
20,555 | ||
| $ | 212,860 | ||
In 2002, 2003 and 2004, the Company recorded income tax expense of $280, $151 and $363, respectively, related to a provision for current state, local and foreign taxes.
84
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
16. Income Taxes — (Continued)
The Company’s provision for income tax differs from the amount computed by applying the statutory U.S. federal income tax rate of 35% primarily due to state and local taxes and changes in valuation allowances as detailed below:
| 2002 | 2003 | 2004 | ||||||||
Tax benefit at federal statutory rate |
$ | (4,867 | ) | $ | (1,534 | ) | $ | (25,741 | ) | |
State and local taxes, net of federal impact |
1,822 | (2,239 | ) | (1,486 | ) | |||||
Mandatorily redeemable preferred stock dividends |
— | — | 7,698 | |||||||
Non-deductible amortization and impairments |
— | — | 3,367 | |||||||
Change in valuation allowance |
10,333 | 10,401 | 15,404 | |||||||
Change in composite state tax rates |
— | (1,267 | ) | — | ||||||
Other, net |
892 | (2,310 | ) | (1,386 | ) | |||||
Income tax provision |
$ | 8,180 | $ | 3,051 | $ | (2,144 | ) | |||
Deferred income taxes reflect the net tax effects of (a) temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, and (b) net operating loss carryforwards. The tax effects of significant items comprising the Company’s net deferred income tax assets are as follows:
| 2003 | 2004 | ||||||
Deferred tax assets: |
|||||||
Accrued expenses |
$ | 1,578 | $ | 2,324 | |||
Other |
4,650 | 6,022 | |||||
Total current deferred tax assets |
6,228 | 8,346 | |||||
Difference between book and tax basis of indefinite lived intangibles |
1,491 |
6,626 |
|||||
Difference between book and tax basis of other intangibles |
16,100 | 20,201 | |||||
Net operating loss carryforward |
76,281 | 81,839 | |||||
Other |
3,557 | 3,037 | |||||
Total non-current deferred tax assets |
97,429 | 111,703 | |||||
Total deferred tax assets |
103,657 | 120,049 | |||||
Deferred tax liabilities: |
|||||||
Difference between book and tax basis of indefinite lived intangibles |
$ | (10,800 | ) | $ | (8,293 | ) | |
Difference between book and tax basis of fixed assets |
(3,197 | ) | (2,901 | ) | |||
Total deferred tax liabilities |
(13,997 | ) | (11,194 | ) | |||
Total net deferred tax assets |
89,660 | 108,855 | |||||
Less: Valuation allowance |
(100,460 | ) | (117,148 | ) | |||
Net |
$ | (10,800 | ) | $ | (8,293 | ) | |
Management has determined that the Company is not likely to realize the income tax benefit of its net deferred tax assets. To the extent the Company generates income in future years, the tax provision will reflect the realization of such benefits, with the exception of benefits attributable to acquired deferred tax assets. The recognition of such amount in future years will be allocated to reduce the excess of the purchase price over the net assets acquired and other non-current intangible assets.
85
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
16. Income Taxes — (Continued)
As a result of the adoption of SFAS 142 in 2002, the Company continues to record a valuation allowance in excess of its net deferred tax assets, to the extent the difference between the book and tax basis of indefinite lived intangible assets is not expected to reverse during the net operating loss carryforward period. The Company recorded non-cash deferred income tax expense of approximately $5,200 on January 1, 2002 related to the adoption of SFAS 142.
With the adoption of SFAS 142, the Company no longer amortizes the book basis in the indefinite lived intangibles but continues to amortize these intangibles for tax purposes. In 2002 and 2003 the Company recorded additional non-cash deferred income tax expenses of $2,700 and $2,900, respectively related to the increase in its net deferred tax liability for the tax effect on the net increase in the difference between the book and tax basis in the indefinite lived intangible assets. In 2004, as the result of the impairment of the book basis of indefinite-lived intangibles, the Company reversed previously recorded provisions resulting in a benefit of $(2,507).
17. Stockholders’ Deficit
Warrants |
In connection with debt instruments issued to fund the acquisition of CompassLearning in 1999, the Company issued warrants to purchase 108,003 shares of its common stock. The warrants have an exercise price of $0.01 per share and contain a cashless exercise provision. The fair value of the warrants in the amount of $2,160 has been recorded as a debt discount and additional paid-in capital. The warrants were exercisable upon issuance and expire in July 2009.
Stock Options |
During 1999, the Company granted options to purchase 301,724 (the “1999 Options”) at $18.60 per share, which vested as follows: 33%, in 1999, 33% in 2000 and 34% in 2001. Certain of these options contain a cashless exercise provision which require the Company to account for such options using variable plan accounting. Additionally, in 2002, the Company granted certain of its executives, options to purchase 220,000 shares of common stock at $40.00 per share. Such options also contain a cashless exercise provision. During 2002, 2003 and 2004, no compensation expense was recognized for these options as the fair market value of the Company’s common stock, as estimated by the Company’s Board of Directors, was less than the exercise price of the options.
During 2003, a terminated employee exercised options to purchase 13,456 shares of common stock. The Company immediately repurchased such shares at a price of $40.00 per share pursuant to the employee’s termination agreement. The difference between the $40.00 per share repurchase price and the exercise price of the options, in the aggregate amount of $288, was recorded as compensation expense in the consolidated statement of operations during 2003.
In 2000, the Company adopted the WRC Media Inc. and Subsidiaries Year 2000 Stock Option Plan (the “Plan”) under which 319,463 shares of common stock have been made available for issuance. The purpose of the Plan is to encourage and enable the officers, employees, directors, consultants and other key persons of WRC Media Inc., and its Parents, Subsidiaries and Affiliates, upon whose judgment, initiative and efforts the Company largely depends for the successful conduct of its business to acquire a proprietary interest in the Company. The Plan is administered by the Board of Directors (“Board”), or by a committee of the Board, comprised of not less than two Directors.
The exercise price per share for the common stock covered by a Stock Option is determined by the Board at the time of grant but shall not be less than 100% of the Fair Market Value on the date of grant in the case of Incentive Stock Options. “Fair Market Value” of the Stock on any given date means the fair
86
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
17. Stockholders’ Deficit — (Continued)
market value of the common stock determined in good faith by the Board. During 2000, the Company granted options to purchase 107,523 shares at $18.60 per share to an executive under his employment agreement that were not covered by the Plan. Those options contain a cashless exercise provision and are subject to variable plan accounting. No compensation expense was recognized for these options during 2002, 2003 and 2004. The options covered under the Plan vest ratably over four years from the date of grant.
In 2001, in conjunction with the acquisition of ChildU, Inc. (see Note 1), the Company granted 35,000 options at $40.00 per share (the “2001 Options”) to certain key employees of ChildU, Inc. The 2001 Options vest ratably over two years from the date of grant.
A summary of the Company’s option activity is as follows:
| Year Ended December 31, 2002 |
Year Ended December 31, 2003 |
Year Ended December 31, 2004 |
|||||||||||||||||
Employee Stock Options |
Shares | Weighted Average Exercise Price |
Shares | Weighted Average Exercise Price |
Shares | Weighted Average Exercise Price |
|||||||||||||
Outstanding, beginning of year |
608,601 | $ | 21.34 | 878,901 | $ | 27.47 | 897,970 | $ | 27.25 | ||||||||||
Granted |
289,500 | 40.00 | 35,000 | 18.60 | — | — | |||||||||||||
Exercised |
— | (13,456 | ) | 18.60 | — | ||||||||||||||
Expired |
— | — | (20,000 | ) | 40.00 | ||||||||||||||
Forfeited |
(19,200 | ) | 21.94 | (2,475 | ) | 31.57 | (12,512 | ) | 39.98 | ||||||||||
Outstanding, end of year |
878,901 | 27.47 | 897,970 | 27.25 | 865,458 | 26.77 | |||||||||||||
Options exercisable at year-end |
572,762 | 741,097 | 828,021 | ||||||||||||||||
Options available for grant at year-end |
39,073 | 5,745 | 11,570 | ||||||||||||||||
Options subject to variable accounting |
615,076 | 607,370 | 587,370 | ||||||||||||||||
Weighted-average fair value of options granted during the period |
$ | — | $ | — | $ | — | |||||||||||||
The fair value of each option grant was estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions: risk-free interest rate of 3.75% and 3.3% in 2002 and 2003; no expected dividend yield for 2002 and 2003; and expected life of 5 years with no expected volatility for 2002 and 2003, respectively.
The following table summarizes information about employee stock options outstanding at December 31, 2004:
| Options Outstanding |
Options Exercisable |
|||||||||||||||
Exercise Price |
Number Outstanding December 31, 2004 |
Weighted Average Remaining Contractual Life |
Exercise Price |
Number Exercisable at December 31, 2004 |
Exercise Price |
|||||||||||
$18.60 |
535,045 | 5.3 years | $18.60 | 514,983 | $18.60 | |||||||||||
$40.00 |
330,413 | 6.8 years | $40.00 | 313,038 | $40.00 | |||||||||||
87
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
18. Related Party Transactions
Management Agreements |
In connection with the acquisition of Weekly Reader and CompassLearning, the Company entered into management agreements with its principal shareholder.
In accordance with the management agreements, the shareholder provides Weekly Reader and CompassLearning management consulting and financial advisory services. As a result, Weekly Reader and CompassLearning are obligated to pay to the shareholder annual aggregate management fees for services to both Weekly Reader and CompassLearning totaling $950, which are payable quarterly The agreements have no stated term, but can be terminated by the shareholder upon five days notice. In addition, the Company will reimburse the principal shareholder for reasonable out-of-pocket costs and expenses incurred in connection with the performance of its services.
In June 2003, the shareholder waived the payment of $300 in management fees for 2003. The waived amount has been recorded as a capital contribution. During the years ended December 31, 2002, 2003 and 2004, the Company recognized expenses for such management fees in each year of $950. At December 31, 2003 and 2004, other accrued liabilities include approximately $650 and $475 of accrued management fees, respectively.
19. Retirement Plans
Substantially all of the Company’s employees are eligible to participate in a defined contribution plan of the Company. Pursuant to the provisions of the Plan, the Company is obligated to match 33% of the employee’s contribution to the Plan up to the first 6% of the employee’s compensation. The expense recognized by the Company for the Company’s contributions to the plan was $1,352, $1,303 and $1,358 for the years ended December 31, 2002, 2003 and 2004, respectively.
A subsidiary of Weekly Reader sponsors a defined benefit pension plan (the “American Guidance Plan”) for the benefit of its employees. The benefits to be paid under the American Guidance Plan are based on years of service and compensation amounts for the average of the highest five consecutive plan years. The American Guidance Plan is funded by means of contributions to the plan’s trust. The pension funding policy is consistent with the funding requirements of U.S. Federal and other governmental laws and regulations. Plan assets consist primarily of fixed income, equity and short-term investments.
88
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
19. Retirement Plans — (Continued)
The net pension expense for the American Guidance Plan and the reconciliation of the funded status of the Plan at December 31, 2003 and 2004 and the accrued obligation in the consolidated balance sheets are as follows (based on a measurement date of July 1, 2004):
| 2003 | 2004 | ||||||
Change in benefit obligation: |
|||||||
Projected benefit obligation, beginning of year |
$ | 14,379 | $ | 15,499 | |||
Service cost |
916 | 900 | |||||
Interest cost |
883 | 949 | |||||
Actuarial loss |
(109 | ) | 217 | ||||
Benefits paid |
(570 | ) | (613 | ) | |||
Projected benefit obligation, end of year |
$ | 15,499 | $ | 16,952 | |||
Change in plan assets: |
|||||||
Fair value of plan assets, beginning of year |
$ | 7,269 | $ | 9,656 | |||
Actual return on plan assets |
1,928 | 1,391 | |||||
Employer contributions |
1,029 | 2,254 | |||||
Benefits paid |
(570 | ) | (613 | ) | |||
Fair value of plan assets, end of year |
$ | 9,656 | $ | 12,688 | |||
Funded status at December 31, |
|||||||
Plan assets less than benefit obligation |
$ | (5,842 | ) | $ | (4,264 | ) | |
Unrecognized actuarial loss |
3,754 | 3,379 | |||||
Accrued pension cost |
$ | (2,088 | ) | $ | (885 | ) | |
Amounts recognized in consolidated balance sheets: |
|||||||
Accrued benefit liability |
$ | (3,987 | ) | $ | (2,657 | ) | |
Accumulated other comprehensive loss |
1,899 | 1,772 | |||||
| $ | (2,088 | ) | $ | (885 | ) | ||
Components of net periodic benefit cost: |
|||||||
Service cost |
$ | 916 | $ | 900 | |||
Interest cost |
883 | 949 | |||||
Expected return on plan assets |
(675 | ) | (967 | ) | |||
Amortization of unrecognized net actuarial loss |
294 | 169 | |||||
Net periodic benefit cost |
$ | 1,418 | $ | 1,051 | |||
Accumulated benefit obligation and fair value of assets: |
|||||||
Accumulated benefit obligation |
$ | (13,644 | ) | $ | (15,345 | ) | |
Fair value of assets |
$ | 9,656 | $ | 12,688 | |||
Weighted-average assumptions as of end of year |
|||||||
Discount rate |
6.25 | % | 5.80 | % | |||
Expected return on plan assets |
9.0 | % | 8.25 | % | |||
Rate of compensation increase |
3.5 | % | 3.25 | % |
The Company developed the expected long-term rate of return on assets assumption by considering the current level of expected returns on risk free investments (primarily government bonds) the historical level of the risk premium associated with other asset classes in which the portfolio is invested and the expectation for future returns on each asset class. The expected return for each asset class was weighted based on the
89
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
19. Retirement Plans — (Continued)
aggregate target asset allocation to develop the expected long-term rate of return on assets assumption for the portfolio. The Company reviews the expected rate of return on an annual basis and revises it as appropriate.
The American Guidance Plan investment objective is a heavily weighted equity portfolio with an emphasis on long-term growth. Assets held include high-quality, well-capitalized stocks of established companies and were allocated 87% to equity securities and 11% to fixed income securities in 2003 and 82% to equity securities and 11% fixed income securities in 2004:
| 2003 | 2004 | ||||||
Asset Category: |
|||||||
Equity Securities |
87.0 | % | 82.0 | % | |||
Debt Securities |
11.0 | % | 11.0 | % | |||
Other |
2.0 | % | 7.0 | % | |||
Total |
100.0 | % | 100.0 | % | |||
The Company expects to contribute $1,275 to the American Guidance Plan in 2005.
The following benefit payments, which reflect future service, as appropriate, are expected to be paid by the American Guidance Plan during the next ten years:
Pension Benefits |
||||
2005 |
$ | 687 | ||
2006 |
683 | |||
2007 |
695 | |||
2008 |
765 | |||
2009 |
858 | |||
2010-2014 |
6,104 |
A minimum pension liability adjustment is required when the actuarial present value of the accumulated plan benefits exceeds plan assets and accrued pension liability. In 2002, 2003 and 2004, a minimum liability adjustment of ($3,041), $1,458 and $127 respectively, was recorded as a component of other comprehensive income (loss) and reported in accumulated other comprehensive loss as a component of stockholders’ deficit.
20. Commitments and Contingencies
Leases |
The Company has non-cancelable operating leases for equipment, office and warehouse space that include future minimum rental commitments as follows:
| Lease Commitments |
Sublease Rentals |
Net Commitments |
||||||||
Year Ending December 31, |
||||||||||
2005 |
$ | 6,370 | $ | (348 | ) | $ | 6,022 | |||
2006 |
5,653 | (352 | ) | 5,301 | ||||||
2007 |
4,975 | (359 | ) | 4,616 | ||||||
2008 |
3,204 | (359 | ) | 2,845 | ||||||
2009 |
2,127 | (241 | ) | 1,886 | ||||||
Thereafter |
9,841 | — | 9,841 | |||||||
Total |
$ | 32,170 | $ | (1,659 | ) | $ | 30,511 | |||
90
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
20. Commitments and Contingencies — (Continued)
Rent expense, net of sublease rentals, under operating leases was approximately $5,137, $4,385 and $4,563 for the years ended December 31, 2002, 2003 and 2004, respectively.
Litigation |
The Company is a party to litigation arising in the normal course of business. Management regularly analyzes current information and, as necessary, provides accruals for probable liabilities on the eventual disposition of these matters. Management believes that the effect on its results of operations and financial position, if any, for the disposition of these matters, will not be material.
SEC Inquiry |
As previously disclosed in our Form 8-K filed with the SEC on December 15, 2003, the SEC has been conducting an informal inquiry concerning the Company. The SEC’s inquiry focused on a single December 2002 transaction involving the Company’s CompassLearning unit, with respect to which the Company initially recognized revenue in the 4th Quarter of 2002, established a bad debt reserve in the 1st Quarter of 2003 for the full amount of the previously recorded accounts receivable related to this transaction and subsequently reversed entirely when the Company restated in 2004 its financial statements for 2002 and 2003 for this and other matters, as described in our Form 10-K filed with the SEC on June 15, 2004. In connection with this inquiry, on February 3, 2005 three of the Company’s employees, including the Company’s then Chief Executive Officer, Martin E. Kenney, and two non-executive employees of CompassLearning, received “Wells” notices from the staff of the SEC informing them that the staff intends to recommend that the SEC commence actions against them, alleging violations of Section 10(b) of the Securities Exchange Act of 1934, Rule 10b-5 thereunder and certain other federal securities laws. The Company did not receive a “Wells” notice from the staff of the SEC and has no reason to believe that it will become the subject of an enforcement action related to the SEC investigation.
15% Senior Preferred Stock due 2011 |
In 1999, the Company issued 3,000,000 shares of 15% Senior Preferred Stock due in 2011 with a liquidation preference of $25.00 per share. The Senior Preferred Stock shall accrue dividends at a rate of 15% per annum, subject to adjustment if the Company fails to redeem all outstanding shares of such Preferred Stock in connection with a mandatory redemption or change of control. Preferred Stock dividends for the years ended December 31, 2002, 2003 and 2004, amounted to $16,384, $18,982 and $21,994, respectively, and are payable in additional shares of Senior Preferred Stock. Such accrued dividends reflect penalty dividends of 0.5% for periods prior to November 17, 2001. While the Company believes that no penalty dividend is due for subsequent periods, the preferred shareholders may disagree with that conclusion.
21. Rabbi Trust
In 1998, as part of its acquisition of American Guidance, a subsidiary of Weekly Reader, approximately $19,600 of the American Guidance purchase price was paid through contributions to several Rabbi Trusts to settle American Guidance’s obligations due to employees under American Guidance’s predecessor company stock option, employee stock ownership and deferred compensation plans. Payments to the beneficiaries of the Rabbi Trusts are taxable upon distribution from the Rabbi Trusts with Weekly Reader receiving a corresponding deduction for income tax purposes. The assets of the Rabbi Trusts and a related liability are presented in other current assets and accrued liabilities, respectively on the consolidated balance sheets. The balance of liability as of December 31, 2003 and 2004 were approximately $1,006 and $734, respectively. The marketable securities in the Rabbi Trusts have been classified as trading securities and investment income of $156, $55 and $65 has been offset by compensation expense for the same amount on the
91
WRC MEDIA INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands, except share and per share amounts)
21. Rabbi Trust — (Continued)
accompanying consolidated statements of operations for the years ended December 31, 2002, 2003 and 2004, respectively. Marketable securities in the Rabbi Trust have been recorded at fair value, based on quoted market prices, on the accompanying consolidated balance sheets.
22. Supplemental Disclosure of Cash Flow Information
| 2002 | 2003 | 2004 | ||||||||
Cash paid during the period for interest |
$ | 27,870 | $ | 27,779 | $ | 28,170 | ||||
Cash paid during the year for income taxes |
$ | 280 | $ | 285 | $ | 289 | ||||
Non-cash financing activities: |
||||||||||
Preferred stock dividends accrued |
$ | 19,352 | $ | 22,520 | $ | 21,994(1) | ||||
Accretion of preferred stock |
$ | 932 | $ | 947 | $ | 959(1) | ||||
| (1) | During the year ended December 31, 2004, the $21,994 of preferred stock dividends and $959 of accretion have been recorded as interest expense in the statement of operations, resulting from the Company’s adoption of SFAS 150, effective January 1, 2004. |
23. Quarterly Data (Unaudited)
The following is a summary of the unaudited selected quarterly results for which all adjustments necessary for the fair presentation of each period were included.
| Three Months Ended |
|||||||||||||
| March 31 | June 30 | September 30 | December 31 | ||||||||||
2004 |
|||||||||||||
Revenues |
$ | 42,760 | $ | 45,849 | $ | 61,012 | $ | 59,847 | |||||
Gross profit |
29,840 | 31,934 | 44,937 | 43,943 | |||||||||
Operating costs and expenses |
30,563 | 29,928 | 33,459 | 72,572 | |||||||||
Income / (loss) from operations |
(723 | ) | 2,006 | 11,478 | (28,629 | ) | |||||||
Net income / (loss) |
(16,277 | ) | (12,516 | ) | (3,263 | ) | (39,347 | ) | |||||
2003 |
|||||||||||||
Revenues |
$ | 47,038 | $ | 44,141 | $ | 55,387 | $ | 56,137 | |||||
Gross profit |
33,765 | 31,057 | 40,585 | 40,851 | |||||||||
Operating costs and expenses |
29,342 | 27,328 | 28,570 | 34,599 | |||||||||
Income / (loss) from operations |
4,423 | 3,729 | 12,015 | 6,252 | |||||||||
Net income / (loss) |
(3,753 | ) | (4,874 | ) | 3,541 | (2,348 | ) | ||||||
92
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders’ of
Weekly Reader Corporation
New York, New York
We have audited the accompanying consolidated balance sheets of Weekly Reader Corporation and subsidiaries (the “Company”), a 94.9% owned subsidiary of WRC Media Inc., as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders’ deficit, and cash flows for each of the three years in the period ended December 31, 2004. Our audits also included the financial statement schedule listed in the index at Item 15. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Weekly Reader Corporation and subsidiaries as of December 31, 2003 and 2004, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2004, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
As discussed in Notes 2 and 14 of the consolidated financial statements, as of January 1, 2004, the Company has changed its method of accounting for its 15% Senior Preferred Stock to conform to Statement of Financial Accounting Standards No. 150.
DELOITTE & TOUCHE LLP
New York, New York
March 31, 2004
93
WEEKLY READER CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(amounts in thousands, except share and per share data)
| December 31, |
|||||||
| 2003 | 2004 | ||||||
ASSETS |
|||||||
CURRENT ASSETS: |
|||||||
Cash |
$ | 1,267 | $ | 11,233 | |||
Accounts receivable (net of allowances for doubtful accounts and sales returns of $2,179 and $2,745, respectively) |
20,880 | 23,306 | |||||
Inventories |
15,890 | 16,203 | |||||
Due from related party |
11,502 | 8,525 | |||||
Prepaid expenses |
2,882 | 2,581 | |||||
Other current assets (including restricted assets of $1,006 and $734, respectively |
1,889 | 2,065 | |||||
Total current assets |
54,310 | 63,913 | |||||
PROPERTY AND EQUIPMENT, net |
4,665 | 4,346 | |||||
GOODWILL |
101,978 | 101,978 | |||||
DEFERRED FINANCING COSTS, net |
512 | — | |||||
OTHER INTANGIBLE ASSETS, net |
31,580 | 29,643 | |||||
DUE FROM RELATED PARTY |
— | 20,712 | |||||
OTHER ASSETS |
29,711 | 31,433 | |||||
Total assets |
$ | 222,756 | $ | 252,025 | |||
The accompanying notes are an integral part of these consolidated financial statements.
94
WEEKLY READER CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (continued)
(amounts in thousands, except share and per share data)
| December 31, |
|||||||
| 2003 | 2004 | ||||||
LIABILITIES AND STOCKHOLDERS’ DEFICIT |
|||||||
CURRENT LIABILITIES: |
|||||||
Accounts payable |
$ | 15,446 | $ | 15,674 | |||
Accrued expenses and other current liabilities |
15,865 | 15,006 | |||||
Deferred revenue |
17,565 | 18,237 | |||||
Current portion of long-term debt |
8,477 | — | |||||
Total current liabilities |
57,353 | 48,917 | |||||
DEFERRED TAX LIABILITIES |
4,800 | 5,473 | |||||
15%SENIOR PREFERRED STOCK, including accrued dividends (3,000,000 shares outstanding) (Liquidation preference of $160,630) |
— | 160,630 | |||||
LONG TERM DEBT |
262,925 | 293,238 | |||||
Total liabilities |
325,078 | 508,258 | |||||
COMMITMENTS AND CONTINGENCIES |
|||||||
15% SENIOR PREFERRED STOCK, |
|||||||
including accrued dividends (3,000,000 shares outstanding) |
138,636 | — | |||||
STOCKHOLDERS’ DEFICIT: |
|||||||
Common stock, ($.01 par value, 20,000,000 shares authorized; 2,830,000 shares outstanding in 2003 and 2004) |
28 | 28 | |||||
Additional paid-in capital |
9,133 | 9,133 | |||||
Due from parent |
(56,464 | ) | (49,670 | ) | |||
Accumulated other comprehensive loss |
(1,899 | ) | (1,772 | ) | |||
Accumulated deficit |
(191,756 | ) | (213,952 | ) | |||
Total stockholders’ deficit |
(240,958 | ) | (256,233 | ) | |||
Total liabilities and stockholders’ deficit |
$ | 222,756 | $ | 252,025 | |||
The accompanying notes are an integral part of these consolidated financial statements.
95
WEEKLY READER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2002, 2003 AND 2004
(amounts in thousands)
| 2002 | 2003 | 2004 | ||||||||
REVENUE, net |
$ | 155,055 | $ | 152,110 | $ | 161,865 | ||||
COST OF GOODS SOLD |
38,647 | 37,739 | 39,365 | |||||||
Gross profit |
116,408 | 114,371 | 122,500 | |||||||
COSTS AND EXPENSES: |
||||||||||
Sales and marketing |
28,179 | 28,241 | 33,557 | |||||||
Distribution, circulation and fulfillment |
14,012 | 14,626 | 14,846 | |||||||
Editorial |
10,847 | 10,365 | 10,797 | |||||||
General and administrative |
18,654 | 19,011 | 21,648 | |||||||
Restructuring costs |
4,280 | (516 | ) | (15 | ) | |||||
Depreciation |
1,969 | 1,706 | 1,499 | |||||||
Amortization of intangible assets |
7,252 | 9,088 | 8,422 | |||||||
Total operating costs and expenses |
85,193 | 82,521 | 90,754 | |||||||
Income from operations |
31,215 | 31,850 | 31,746 | |||||||
INTEREST EXPENSE, INCLUDING AMORTIZATION OF DEFERRED FINANCING COSTS |
(28,877 | ) | (28,091 | ) | (52,419 | ) | ||||
OTHER INCOME (EXPENSE), net |
965 | (696 | ) | (794 | ) | |||||
Income (loss) before income tax provision |
3,303 | 3,063 | (21,467 | ) | ||||||
INCOME TAX PROVISION |
4,201 | 612 | 729 | |||||||
Net (loss) income |
$ | (898) | $ | 2,451 | $ | (22,196) | ||||
The accompanying notes are an integral part of these consolidated financial statements.
96
WEEKLY READER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ DEFICIT
FOR THE YEARS ENDED DECEMBER 31, 2002, 2003 AND 2004
(amounts in thousands)
| Common Stock |
Additional Paid-In |
Due From | Accumulated Other Comprehensive |
Accumulated | Total Stockholders’ |
|||||||||||||||||
| Shares | Value | Capital | Parent | Income (loss) | Deficit | Deficit | ||||||||||||||||
Balance, January 1, 2002 |
2,830 | $ | 28 | $ | 9,133 | $ | (66,774 | ) | $ | (316 | ) | $ | (157,943 | ) | $ | (215,872 | ) | |||||
Other comprehensive Income (loss): |
||||||||||||||||||||||
Net income |
— | — | — | — | — | (898 | ) | |||||||||||||||
Minimum pension liability |
— | — | — | — | (3,041 | ) | — | |||||||||||||||
Total comprehensive loss |
(3,939 | ) | ||||||||||||||||||||
Preferred stock dividends |
— | — | — | — | — | (16,384 | ) | (16,384 | ) | |||||||||||||
Change in due from parent |
— | — | — | 4,969 | — | — | 4,969 | |||||||||||||||
Balance, December 31, 2002 |
2,830 | 28 | 9,133 | (61,805) | (3,357) | (175,225) | (231,226) | |||||||||||||||
Other comprehensive Income (loss): |
||||||||||||||||||||||
Net income |
— | — | — | — | — | 2,451 | ||||||||||||||||
Minimum pension liability |
— | — | — | — | 1,458 | — | ||||||||||||||||
Total comprehensive income |
3,909 | |||||||||||||||||||||
Preferred stock dividends |
— | — | — | — | — | (18,982 | ) | (18,982 | ) | |||||||||||||
Change in due from parent |
— | — | — | 5,341 | — | — | 5,341 | |||||||||||||||
Balance, December 31, 2003 |
2,830 | 28 | 9,133 | (56,464) | (1,899) | (191,756) | (240,958) | |||||||||||||||
Other comprehensive Income (loss): |
||||||||||||||||||||||
Net income |
— | — | — | — | — | (22,196 | ) | |||||||||||||||
Minimum pension liability |
— | — | — | — | 127 | — | ||||||||||||||||
Total comprehensive loss |
(22,069 | ) | ||||||||||||||||||||
Change in due from parent |
— | — | — | 6,794 | — | — | 6,794 | |||||||||||||||
Balance, December 31, 2004 |
2,830 | $ | 28 | $ | 9,133 | $ | (49,670) | $ | (1,772) | $ | (213,952) | $ | (256,233) | |||||||||
The accompanying notes are an integral part of these consolidated financial statements.
97
WEEKLY READER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2002, 2003 AND 2004
(amounts in thousands)
| 2002 | 2003 | 2004 | ||||||||
CASH FLOWS FROM OPERATING ACTIVITIES: |
||||||||||
Net (loss) income |
$ | (898) | $ | 2,451 | $ | (22,196) | ||||
Adjustments to reconcile net (loss) income to net cash used in operating activities: |
||||||||||
Deferred income tax provision |
4,100 | 700 | 673 | |||||||
Depreciation and amortization |
9,221 | 10,794 | 9,921 | |||||||
Accrual of mandatorily redeemable preferred stock dividends |
— | — | 21,994 | |||||||
Impairment of pre-publication costs |
— | — | 76 | |||||||
Write-off of acquisition costs |
49 | — | — | |||||||
Amortization of deferred financing costs |
181 | 180 | 512 | |||||||
Loss on dispositions of property and equipment |
711 | 84 | 117 | |||||||
Amortization of debt discount |
396 | 451 | 514 | |||||||
Changes in operating assets and liabilities: |
||||||||||
Accounts receivable |
2,194 | 1,567 | (2,426 | ) | ||||||
Inventories |
(635 | ) | (1,522 | ) | (313 | ) | ||||
Prepaid expenses and other assets |
349 | (11,524 | ) | (8,159 | ) | |||||
Accounts payable |
2,752 | (3,393 | ) | 228 | ||||||
Deferred revenue |
2,149 | (3,092 | ) | 672 | ||||||
Accrued expenses and other liabilities |
(9,563 | ) | (2,797 | ) | (731 | ) | ||||
Net cash provided by (used in) operating activities |
11,006 | (6,101 | ) | 882 | ||||||
CASH FLOWS FROM INVESTING ACTIVITIES: |
||||||||||
Purchase of property and equipment |
(1,102 | ) | (759 | ) | (1,297 | ) | ||||
Proceeds from disposition of property and equipment |
578 | 4 | — | |||||||
Net cash used in investing activities |
(524 | ) | (755 | ) | (1,297 | ) | ||||
CASH FLOWS FROM FINANCING ACTIVITIES: |
||||||||||
Proceeds from revolving line of credit |
33,000 | 34,000 | 37,000 | |||||||
Repayments of revolving line of credit |
(33,000 | ) | (29,000 | ) | (42,000 | ) | ||||
Repayment of senior bank debt |
(6,171 | ) | (7,989 | ) | (118,678 | ) | ||||
Proceeds from issuance of long term debt |
— | — | 145,000 | |||||||
Due from parent, net |
5,133 | 5,341 | 6,794 | |||||||
Due from related party |
(7,316 | ) | (2,048 | ) | (17,735 | ) | ||||
Net cash provided by (used in) financing activities |
(8,354 | ) | 304 | 10,381 | ||||||
Increase (decrease) in cash and cash equivalents |
2,128 | (6,552 | ) | 9,966 | ||||||
CASH AND CASH EQUIVALENTS, beginning of year |
5,691 | 7,819 | 1,267 | |||||||
CASH AND CASH EQUIVALENTS, end of year |
$ | 7,819 | $ | 1,267 | $ | 11,233 | ||||
The accompanying notes are an integral part of these consolidated financial statements.
98
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in thousands)
1. Description of Business
The consolidated financial statements of Weekly Reader Corporation (“WRC”) include the accounts of WRC and its wholly-owned subsidiaries (all are collectively referred to as “Weekly Reader” or the “Company”). At December 31, 2003 and 2004, WRC Media Inc. (the “Parent”) owns 94.9% and PRIMEDIA, Inc. owns 5.1% of the common stock of Weekly Reader.
The Company is in the business of developing, publishing and marketing print and electronic supplemental education materials for the Pre-K-12 market. Our product portfolio includes a broad range of instructional materials, testing and assessment products and library materials. Certain of the Company’s products have been sold in the education marketplace for over 100 years. The Company’s customers are primarily within the United States.
2. Summary of Significant Accounting Policies
Principles of Consolidation |
The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.
Use of Estimates |
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses reported in the consolidated financial statements. Actual results could differ materially from these estimates. Significant accounting estimates used in the preparation of the Company’s consolidated financial statements include estimates for sales returns and allowances, the allowance for doubtful accounts, the carrying values of goodwill, intangible asset and long-lived assets, the realizability of deferred tax assets and depreciation and amortization.
Inventories |
Inventories are valued at the lower of cost or market on a first-in, first-out (“FIFO”) basis. The Company periodically evaluates the realizability of inventories and adjusts the carrying value as necessary.
Property and Equipment |
Property and equipment are stated at cost, net of accumulated depreciation, and are depreciated using the straight-line method over the estimated useful lives of the related assets. Leasehold improvements are amortized using the straight-line method over the shorter of the estimated useful life of the asset or the lease term. Improvements are capitalized while maintenance and repairs are expensed as incurred.
Deferred Financing Fees |
Deferred financing fees relate to direct costs paid by the Company in connection with its financing agreements. These costs are deferred and are amortized on an effective interest basis over the term of the related debt. Amortization of deferred financing costs charged to interest expense for the years ended December 31, 2002, 2003 and 2004 were $181, $180 and $512, respectively.
Revenue Recognition |
Subscriptions are recorded as deferred revenue when received and recognized as income over the term of the subscription. Sales of books, tests and other items are generally recognized as revenue upon shipment, net of an allowance for returns. Advertising revenues are recognized as income on the issue date, net of
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
2. Summary of Significant Accounting Policies — (Continued)
provisions for rebates. Revenues on sales of books to certain distributors are recognized when the Company’s products are sold by them to their customers, net of an allowance for returns. Consigned inventory associated with sales to distributors is not significant at December 31, 2003 and 2004.
In November 2002, the Emerging Issues Task Force (“EITF”) reached a consensus on EITF No. 00-21, “Accounting for Revenue Arrangements with Multiple Element Deliverables.” The issue addresses how to account for arrangements that may involve the delivery or performance of multiple products, services and/or rights to use assets. Revenue arrangements with multiple deliverables should be divided into separate units of accounting if the deliverables in the arrangement meet certain criteria. Arrangement consideration should be allocated among the separate units of accounting based on their relative fair values. This consensus is applicable to agreements entered into in quarters beginning after June 15, 2003. Additionally, companies were permitted to apply the consensus guidance to all existing arrangements as a cumulative effect of a change in accounting principle. The adoption of EITF 00-21 during 2003 did not have a material impact on the Company’s consolidated financial statements.
For contracts with multiple obligations (e.g., deliverable and undeliverable products, and other post contract support), the Company allocates revenue to each component of the contract based on objective evidence of its fair value, or for products not yet being sold separately, the price established by management for the item when it will be sold separately. The Company recognizes revenue allocated to undelivered products when the criteria for product revenue set forth above are met.
Licensing revenue is recorded in accordance with royalty agreements at the time licensed materials are available to the licensee or when the licensee reports sales of licensed products and collections are reasonably assured.
Revenue is recognized for periodical subscriptions when the issue is shipped and available to the subscribers.
Comprehensive Loss |
SFAS 130 “Reporting Comprehensive Income,” establishes standards for reporting and displaying of comprehensive income and its components (revenue, expenses, gains and losses) in a full set of general-purpose financial statements. The components of the Company’s other comprehensive income (loss) consist solely of minimum pension liability adjustments.
Prepublication and Direct-Response Advertising Costs |
Marketing, selling, distribution, editorial, and other general and administrative expenses are generally expensed as incurred. Certain editorial costs relating for long-lived product lines are deferred and amortized using both straight-line and accelerated methods over periods ranging from three to ten years. Capitalized editorial costs are recorded as prepublication costs. As of December 31, 2003 and 2004, other assets in the accompanying consolidated balance sheets, include prepublication costs of $22,215 and $24,686 (net of accumulated amortization), respectively. Accumulated amortization of prepublication costs at December 31, 2003 and 2004 was $15,098 and $21,383, respectively. Amortization of prepublication costs, which is included in depreciation and amortization in the accompanying consolidated statements of operations, was $3,882, $5,720 and $6,486 for the years ended December 31, 2002, 2003 and 2004, respectively.
Advertising and subscription acquisition costs are expensed the first time the advertising takes place, except for direct-response advertising, the primary purpose of which is to elicit sales from customers who can be shown to have responded specifically to the advertising and that results in probable future economic benefits. Direct-response advertising consists of product promotional mailings, catalogs and subscription promotions. These direct-response advertising costs are capitalized and amortized over the estimated period of
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
2. Summary of Significant Accounting Policies — (Continued)
future benefit using a ratio of current period revenues to total current and estimated future period revenues. The amortization periods range from ten months to thirty months subsequent to the promotional event. Amortization of direct-response advertising costs is included in marketing and selling expenses in the accompanying consolidated statements of operations. As of December 31, 2003 and 2004, other assets on the accompanying balance sheets, include direct-response advertising costs, of $5,761 and $5,498 (net of amortization), respectively. Accumulated amortization of direct-response advertising costs at December 31, 2003 and 2004 was $8,219 and $13,275, respectively. Amortization of direct-response advertising costs, which is included in marketing and selling on the accompanying consolidated statements of operations, was $7,430, $6,606 and $8,091 for the years ended December 31, 2002, 2003 and 2004, respectively.
Capitalized Software Costs |
The Company capitalizes software development costs under the provisions of Statement of Position 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use (“SOP 98-1”). The Company capitalizes the costs of acquiring, developing and testing software to meet the Company’s internal needs. Under the provisions of SOP 98-1, the Company capitalizes costs associated with software developed or obtained for internal use when both the preliminary project stage is completed and management has authorized further funding for the project which it deems probable will be completed and used to perform the function intended. Capitalized costs include only (1) external direct costs of materials and services consumed in developing or obtaining internal-use software, (2) payroll and payroll-related costs for employees who are directly associated with and devote time to the internal-use software project and (3) interest costs incurred while developing internal-use software. Capitalization of such costs ceases no later than the point at which the project is substantially complete and ready for its intended use. Internal use software costs are amortized using a straight-line method over a five-year period. Amortization of internal use software amounted to $431, $413, and $185 for the years ended December 31, 2002, 2003 and 2004, respectively. Costs associated with the purchase and development of software for internal use have been capitalized in the amounts of $116 and $293 during the years ended December 31, 2003 and 2004, respectively.
Goodwill and Indefinite Lived Intangibles |
Goodwill represents the excess of the purchase price of companies acquired over the fair value of their net assets at the acquisition date. On January 1, 2002, the Company adopted SFAS 142, “Goodwill and Other Intangible Assets.” Under SFAS 142, goodwill and intangible assets deemed to be indefinite lived intangible assets (primarily trademarks) are no longer amortized but are subject to annual impairment tests. Upon adoption of SFAS 142, the Company ceased amortizing goodwill and indefinite lived intangible assets.
The Company tests goodwill for impairment, at least annually in the fourth quarter, and uses a fair value approach at the reporting unit level. A reporting unit is an operating segment or one level below an operating segment for which discrete financial information is available and reviewed regularly by management. Assets and liabilities of the Company have been assigned to the reporting units to the extent that they are employed in or are a liability related to the operations of the reporting unit and were considered in determining the fair value of the reporting unit. Indefinite lived intangible assets are also tested at least annually for impairment using a fair value approach.
Long-Lived Assets |
Long-lived assets of the Company, including amortizable intangibles, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. Management also reevaluates the periods of amortization of long-lived assets to determine whether events and circumstances warrant revised estimates of useful lives. When such events or changes in
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
2. Summary of Significant Accounting Policies — (Continued)
circumstances occur, the Company tests for impairment by comparing the carrying value of the long-lived asset to the estimated undiscounted future cash flows expected to result from use of the asset and its eventual disposition. If the sum of the expected undiscounted future cash flows is less than the carrying amount of the asset, the Company would recognize an impairment loss. The amount of the impairment loss will be determined by comparing the carrying value of the long-lived asset to the present value of the net future operating cash flows to be generated by the asset.
Concentration of Credit Risk |
The Company’s customers include schools and other institutions. Accounts receivable are generally unsecured and a provision for estimated doubtful accounts is provided. There are no concentrations of business transacted with a particular customer or supplier, nor concentrations of revenue from a particular service or geographic area.
Income Taxes |
The Company and its subsidiaries file their Federal income taxes as members of the Parent’s consolidated return and file their state and local income taxes on either a separate basis or a combined basis in various jurisdictions. Income taxes are presented in accordance with SFAS 109, “Accounting for Income Taxes”, using the asset and liability approach. Deferred taxes reflect the tax consequences in future years of differences between the financial reporting and tax bases of assets and liabilities. A valuation is required to offset any net deferred tax assets if, based on the available evidence, it is more likely than not that some or all of the deferred tax asset will not be realized.
Fair Value of Financial Instruments |
The estimated fair value of financial instruments has been determined by the Company using available market information and valuation methodologies. Considerable judgment is required in estimating fair values. Accordingly, the estimates may not be indicative of the amounts the Company could realize in a current market exchange. The carrying values of cash, accounts receivable, and accounts payable approximate fair value based on the short-term nature of these financial instruments.
The carrying values of the Company’s Senior Bank Credit Facilities are assumed to approximate the market value due to the variable interest rates on these instruments. The estimated fair values of other financial instruments as of December 31, 2004 are as follows:
| Fair Value | Carrying Amount | Face Value | ||||||||
12 3/4% Senior Subordinated Notes |
$ | 144,400 | $ | 148,238 | $ | 152,000 | ||||
The carrying value of the Company’s 15% Senior Preferred Stock approximates its fair value at December 31, 2004.
Derivative Financial Instruments |
Derivative financial instruments are held for purposes other than trading. The Company uses derivative financial instruments to reduce its exposure to interest rate volatility. All derivative instruments are recorded at fair value. For those instruments that do not qualify for hedge accounting, changes in fair value are recognized in income. At the December 31, 2004, the Company did not hold any derivative financial instruments.
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
2. Summary of Significant Accounting Policies — (Continued)
Cash and Cash Equivalents |
Management considers all highly liquid instruments purchased with an original maturity of 90 days or less to be cash equivalents.
Stock Based Compensation |
The Company accounts for stock-based compensation arrangements with employees using the intrinsic value method in accordance with the provisions of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”). The Company applies the additional disclosure requirements of SFAS 123, Accounting for Stock-based Compensation and Related Interpretations (“SFAS 123”), as amended by SFAS 148 Accounting for Stock-Based Compensation - Transition and Disclosure, for employee stock arrangements.
WRC Media Inc. has one stock-based employee compensation plan which employees of the Company participate in. No awards were made in the year ended December 31, 2004. During 2002, 2003 and 2004, the Company recorded stock-based employee compensation of $248, $288 and $0, respectively, related to the repurchase by the Company of redeemable common stock from certain terminated employees. At December 31, 2004 options to purchase 53,550 shares of WRC Media Inc., common stock, at $18.60 per share and options to purchase 24,300 shares of WRC Media Inc. common stock at $40.00 per share were held by employees of the Company of which 43,550 options at $18.60 and 21,050 options at $40.00 were exercisable. Had compensation expense for stock-based compensation arrangements with employees been recorded based upon the fair value method under SFAS 123, as amended for 2002, 2003 and 2004, the impact on the Company’s consolidated results of operations would be insignificant.
Recent Accounting Pronouncements |
In January 2003, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 46, “Consolidation of Variables Interest Entities (“FIN 46”). FIN 46 clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. In December 2003, the FASB issued FIN No. 46 (Revised) (“FIN 46R”) to address certain FIN 46 implementation issues. This interpretation requires that the assets, liabilities, and results of activities of a Variable Interest Entity (“VIE”) be consolidated into the financial statements of the enterprise that is the primary beneficiary of the VIE. FIN 46R also requires additional disclosures by primary beneficiaries and other significant variable interest holders. This interpretation was effective no later than the end of the first interim or reporting period ending after March 15, 2004, except for those VIE’s that are considered to be special purpose entities, for which the effective date is no later than the end of the first interim or annual reporting period ending after December 15, 2003. The adoption of FIN 46R, effective March 31, 2004, did not have any effect on the Company’s consolidated financial position or results of operations.
In April 2003, the FASB issued Statements of Financial Accounting Standards (“SFAS”) No. 149 “Amendment of Statement 133 on Derivative Instruments and Hedging Activities” (“SFAS 149”), which amends and clarifies accounting for derivative instruments, and for hedging activities under SFAS 133. Specifically, SFAS 149 requires that contracts with comparable characteristics be accounted for similarly. Additionally, SFAS 149 clarifies the circumstances in which a contract with an initial net investment meets the characteristics of a derivative and when a derivative contains a financing component that requires special reporting in the statement of cash flows. This Statement is generally effective for contracts entered into or modified after June 30, 2003 and its adoption did not have any effect on the Company’s consolidated financial position or results of operations.
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
2. Summary of Significant Accounting Policies — (Continued)
In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity” (“SFAS 150”). SFAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). Many of those instruments were previously classified as equity. This statement was effective for the Company beginning January 1, 2004. For financial instruments created before the issuance date of this statement and still existing at the beginning of the interim period of adoption, transition shall be achieved by reporting the cumulative effect of a change in an accounting principle by initially measuring the financial instruments at fair value or other measurement attribute required by this statement. The adoption of this statement required the Company to reclassify its 15% Senior Preferred Stock (“15% Senior Preferred”) from the mezzanine section of the balance sheet to long-term liabilities. Effective January 1, 2004 dividend payments for the 15% Senior Preferred are recorded as interest expense in the consolidated statement of operations. The adoption of this statement did not result in any adjustment to the book value of its 15% Senior Preferred as of January 1, 2004, as book value approximated fair value at January 1, 2004. For the year ended December 31, 2004 the Company recognized $21,994 of accrued dividends on 15% Senior Preferred as interest expense.
In December 2003, the FASB issued SFAS No. 132 (Revised 2003), “Employers’ Disclosures about Pensions and Other Postretirement Benefits, an amendment of FASB Statements No. 87, 88 and 106.” It requires additional disclosures to those in the original Statement 132 about the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined benefit post-retirement plans. The majority of the provisions of this statement apply to financial statements issued for fiscal years ending after December 15, 2003. The Company adopted such disclosure provisions.
In March 2004, the Emerging Issues Task Force of the FASB reached a consensus on Issue No. 03-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments” (“Issue 03-1”). Issue 03-1 provides guidance for determining when an investment is other-than-temporarily impaired specifically, whether an investor has the ability and intent to hold an investment until recovery. In addition, Issue 03-1 contains disclosure requirements about impairments that have not been recognized as other than temporary for investments. Issue 03-1 also requires the investor to disclose investments with unrealized losses that have not been recognized as other-than-temporary impairments. The disclosures are effective in annual financial statements for fiscal years ending after December 15, 2003, for investments accounted for under statements 115 and 124. For all other investments within the scope of this Issue, the disclosures are effective in annual financial statements for fiscal years ending after June 15, 2004. The additional disclosures for cost method investments are effective for fiscal years ending after June 15, 2004. In September 2004, the FASB delayed the effective date of the measurement and recognition guidance of Issue 03-1 until the FASB issues FASB Staff Position 03-1a. The adoption of this consensus is not expected to have any impact on the Company’s consolidated results of operations or financial position.
In November 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 151, “Inventory Costs – An Amendment of ARB No. 43, Chapter 4.” SFAS 151 clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). SFAS 151 requires that those items be recognized as current period charges. In addition, SFAS 151 requires that the allocation of fixed production overheads to the costs of conversion be based on the normal capacity of production facilities. The provisions of SFAS 151 are effective for inventory costs incurred during fiscal years beginning after June 15, 2005. Companies must apply the standard prospectively. The adoption of SFAS No. 151 is not expected to have a material impact on the Company’s consolidated results of operations or financial position.
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
2. Summary of Significant Accounting Policies — (Continued)
In December 2004, the FASB issued FAS No. 123R, “Share-Based Payments” (“SFAS 123R”), a revision of SFAS 123. The revised statement clarifies the accounting for transactions in which an entity exchanges its equity instruments for goods or services. Specifically, the statement eliminates the use of intrinsic value method of accounting provided for in APB 25, Accounting for Stock Issued to Employees, and requires entities to recognize the cost of equity instruments granted to employee using the grant-date fair value of the award. The provisions of SFAS 123R are affective for the Company beginning January 1, 2006. The adoption of SFAS 123R is not expected to have a material impact on the Company’s consolidated financial position or results of operations.
In December 2004, the FASB issued SFAS No. 153 “Exchange of Non-monetary Assets, an Amendment of APB Opinion No. 29, Accounting for Non-monetary Transactions.” SFAS No. 153 addresses the measurement of exchanges of non-monetary assets and requires that such exchanges be measured at fair value, with limited exceptions. SFAS No. 153 amends APB Opinion No. 29 by eliminating the exception that required non-monetary exchanges of similar productive assets to be recorded on a carryover basis. The provisions of SFAS No. 153 are effective for non-monetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The adoption of SFAS No. 153 is not expected to have a material impact on the Company’s consolidated financial position or results of operations.
3. Segment Information
The Company has three reporting segments: Weekly Reader, World Almanac, and American Guidance Service (“AGS”). This classification reflects the nature of the Company’s organizational structure by which the chief operating decision-maker reviews and assesses the operating performance of the reporting segment and allocates corporate resources.
| • | Weekly Reader is a publisher of classroom periodicals, grade-specific workbooks and a custom publisher of instructional materials paid for by various sponsors. |
| • | World Almanac publishes print reference materials sold into the trade channel; publishes nonfiction and fiction children’s books under three imprints for K-12 students; publishes print and electronic reference materials sold into the library channel; and distributes third-
party books targeted for K-12 students through its catalogs. |
| • | AGS is a publisher of testing and assessment products and supplemental instructional materials. AGS products are sold into the school channel. Testing and assessment products are primarily for K-12 students and supplemental instructional materials are primarily for low-
performing students in middle and secondary schools. |
Information regarding the operations of the Company’s reporting segments is set forth below. Parent Company expenses and assets that are not allocable to other operating segments are included in Corporate. Weekly Reader evaluates performance based on several factors, of which the primary financial measure is operating income (loss).
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
3. Segment Information — (Continued)
| Weekly Reader |
World Almanac |
AGS | Corporate | Eliminations | Total | ||||||||||||||
2004 |
|||||||||||||||||||
Net Revenue |
$ | 45,670 | $ | 45,361 | $ | 70,834 | $ | — | $ | — | $ | 161,865 | |||||||
Segment income / (loss) |
6,730 | 4,516 | 20,538 | (38 | ) | — | 31,746 | ||||||||||||
Depreciation and amortization |
453 | 2,092 | 7,330 | 46 | — | 9,921 | |||||||||||||
Restructuring and other non-recurring items |
— | — | (7 | ) | (8 | ) | — | (15 | ) | ||||||||||
Assets |
57,337 | 102,398 | 209,803 | 2,183 | (119,696 | ) | 252,025 | ||||||||||||
Goodwill and indefinite lived intangibles |
19,586 | 25,162 | 72,905 | — | — | 117,653 | |||||||||||||
Capital expenditures |
249 | 698 | 321 | 29 | 1,297 | ||||||||||||||
2003 |
|||||||||||||||||||
Net Revenue |
46,269 | 49,189 | 56,652 | — | — | 152,110 | |||||||||||||
Segment income / (loss) |
9,002 | 7,360 | 14,225 | 1,263 | — | 31,850 | |||||||||||||
Depreciation and amortization |
702 | 2,264 | 7,781 | 47 | — | 10,794 | |||||||||||||
Restructuring and other non-recurring items |
— | 21 | (41 | ) | (496 | ) | — | (516 | ) | ||||||||||
Assets |
57,282 | 99,116 | 183,183 | (23,128 | ) | (93,697 | ) | 222,756 | |||||||||||
Goodwill and indefinite lived intangibles |
19,586 | 25,162 | 72,905 | — | — | 117,653 | |||||||||||||
Capital expenditures |
273 | 141 | 335 | 10 | 759 | ||||||||||||||
2002 |
|||||||||||||||||||
Net Revenue |
44,794 | 52,385 | 57,876 | — | — | 155,055 | |||||||||||||
Segment income / (loss) |
9,127 | 11,138 | 14,032 | (3,082 | ) | — | 31,215 | ||||||||||||
Depreciation and amortization |
848 | 1,622 | 6,661 | 90 | — | 9,221 | |||||||||||||
Restructuring and other non-recurring items |
214 | 691 | 496 | 2,879 | 4,280 | ||||||||||||||
Assets |
60,350 | 92,916 | 166,842 | (18,697 | ) | (75,327 | ) | 226,084 | |||||||||||
Goodwill and indefinite lived intangibles |
19,586 | 25,162 | 72,905 | — | — | 117,653 | |||||||||||||
Capital expenditures |
456 | 184 | 440 | 22 | 1,102 | ||||||||||||||
4. Accounts Receivable,
Accounts receivable at December 31, 2003 and 2004 are as follows:
| 2003 | 2004 | ||||||
Accounts receivable |
$ | 23,059 | $ | 26,051 | |||
Less: |
|||||||
Allowance for doubtful accounts |
(1,410 | ) | (1,362 | ) | |||
Allowance for sales returns |
(769 | ) | (1,383 | ) | |||
| $ | 20,880 | $ | 23,306 | ||||
106
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
5. Inventories
Inventories at December 31, 2003 and 2004 are as follows:
| 2003 | 2004 | ||||||
Finished goods |
$ | 15,853 | $ | 16,126 | |||
Raw materials |
37 | 77 | |||||
| $ | 15,890 | $ | 16,203 | ||||
6. Property and Equipment
Property and equipment at December 31, 2003 and 2004 are as follows:
| Range of Lives (Years) |
2003 | 2004 | ||||||||
Machinery, equipment and other |
3-10 | $ | 7,571 | $ | 6,217 | |||||
Furniture and fixtures |
5-10 | 3,441 | 2,993 | |||||||
Leasehold improvements |
3-15 | 2,875 | 2,500 | |||||||
Internal use software |
5 | 2,325 | 2,522 | |||||||
| 16,212 | 14,232 | |||||||||
Less-accumulated depreciation and amortization |
(11,547 | ) | (9,886 | ) | ||||||
Property and equipment, net |
$ | 4,665 | $ | 4,346 | ||||||
Depreciation and amortization expense was $1,969, $1,706 and $1,499 for the years ended December 31, 2002, 2003 and 2004, respectively.
7. Goodwill
On January 1, 2002, the Company adopted SFAS 142, “Goodwill and Other Intangible Assets.” The Company completed the transitional impairment tests on its goodwill and indefinite lived intangibles during the second quarter ended June 30, 2002. The previous method for determining impairment prescribed by SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long Lived Assets to be Disposed Of,” utilized an undiscounted cash flow approach for the impairment assessment, while SFAS No. 142 utilizes a fair value approach. The Company has three reporting units with goodwill and indefinite lived intangible assets. Goodwill and indefinite lived intangible assets were tested for impairment at the reporting unit level. The Company’s measurement of fair value of goodwill and indefinite lived intangible assets was based on evaluations utilizing both a discounted cash flow, as well as a market approach. These evaluations utilized the best information available in the circumstances, including reasonable and supportable assumptions and projections. Certain key assumptions utilized, including changes in revenue, operating expenses, working capital requirements and capital expenditures including prepublication costs, are based on estimates related to the Company’s strategic initiatives and current market conditions. Such assumptions also are consistent with those utilized in the Company’s annual planning process. The Company’s discounted cash flow evaluation used a discount rate that corresponds to the Company’s weighted-average cost of capital. This discount rate assumed was consistent with that used for investment decisions and takes into account the specific and detailed operating plans and strategies of the Company. The market data utilized represented valuations of comparable companies. Collectively, these evaluations were management’s best estimate of projected future cash flows and the market value of its reporting units.
The Company’s transition analysis indicated that there was no impairment of goodwill and indefinite lived intangible assets as of January 1, 2002. The Company is required to perform impairment tests on an annual basis, or between yearly tests under certain circumstances for goodwill and indefinite lived intangibles.
107
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
7. Goodwill — (Continued)
The Company performed its annual impairment tests during the fourth quarter of 2003 and 2004. No impairment of goodwill and indefinite lived intangibles was required. The carrying value of the company’s Goodwill and Indefinite Lived Intangible assets is as follows:
| December 31, | |||||||
| 2003 | 2004 | ||||||
Goodwill |
$ | 101,978 | $ | 101,978 | |||
Long Lived Assets – Trademarks and Copyrights |
15,675 | 15,675 | |||||
| $ | 117,653 | $ | 117,653 | ||||
WRC recorded non-cash deferred income tax expense of approximately $3,500 on January 1, 2002, for taxable temporary differences that will not reverse prior to expiration of the Company’s net operating loss carryforward periods. The non-cash charge of $3,500 on January 1, 2002 was recorded to increase the valuation allowance related to the deferred tax asset associated with WRC’s net operating losses. Historically, WRC did not need a valuation allowance for the portion of its net operating loss equal to the excess of tax over book amortization on tax-deductible goodwill and indefinite lived assets since the liability was expected to reverse during the carryforward period of the net operating losses. As a result of the adoption of SFAS 142, the timing of the reversal of this liability is indefinite and can no longer be offset by WRC’s net operating loss carryforwards. While book amortization of tax-deductible goodwill, trademarks and copyrights ceased on January 1, 2002, WRC will continue to amortize these assets for tax purposes. As a result, WRC will have deferred tax liabilities that will arise each quarter because the taxable temporary differences related to the amortization of these assets will not reverse prior to the expiration period of WRC’s deductible temporary differences unless the related assets are sold or an impairment of the assets is recorded. Accordingly, WRC recorded an additional $600, $700 and $673 to increase the deferred tax liabilities for the years ended December 31, 2002, 2003 and 2004, respectively.
8. Other Intangible Assets
| December 31, 2003 |
December 31, 2004 |
||||||||||||||||||||
| Useful Lives | Gross | Accumulated Amortization |
Net | Gross | Accumulated Amortization |
Net | |||||||||||||||
Customer Lists |
6-15 yrs | $ | 318 | $ | (161 | ) | $ | 157 | $ | 318 | $ | (203 | ) | $ | 115 | ||||||
Copyrights |
10-20 yrs | 19,936 | (4,901 | ) | 15,035 | 19,936 | (6,083 | ) | 13,853 | ||||||||||||
Software |
3 yrs | 6,420 | (5,707 | ) | 713 | 6,420 | (6,420 | ) | — | ||||||||||||
Total:
|
$ | 26,674 | $ | (10,769 | ) | $ | 15,905 | $ | 26,674 | $ | (12,706 | ) | $ | 13,968 | |||||||
For trademarks and copyrights not subject to amortization, which are included in other intangible assets, the total carrying amount at December 31, 2003 and 2004 was $15,675.
Amortization of intangibles for the years ended December 31, 2002, 2003 and 2004 was $3,370, $3,369 and $1,935, respectively, and is included in amortization of goodwill and intangible assets on the consolidated statements of operations.
The estimated amortization expense for intangible assets subject to amortization for the next five years is as follows:
108
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
8. Other Intangible Assets — (Continued)
2005 |
$ | 1,233 | ||
2006 |
1,184 | |||
2007 |
1,179 | |||
2008 |
1,144 | |||
2009 |
1,123 | |||
Thereafter |
$ | 8,105 |
9. Other Assets
Other assets at December 31, 2003 and 2004 are as follows:
| 2003 | 2004 | ||||||
Pre-publication costs, net |
$ | 22,215 | $ | 24,686 | |||
Direct response advertising costs, net |
5,761 | 5,498 | |||||
Other |
1,735 | 1,249 | |||||
| $ | 29,711 | $ | 31,433 | ||||
10. Accrued Expenses and Other Current Liabilities
Accrued expenses and other current liabilities at December 31, 2003 and 2004 are as follows:
| 2003 | 2004 | ||||||
Rabbi Trust (Note 17) |
$ | 1,006 | $ | 734 | |||
Payroll and related employee benefits |
5,784 | 4,738 | |||||
Pension liability (Note 16) |
3,988 | 2,657 | |||||
Accrued restructuring costs (Note 11) |
1,008 | 886 | |||||
Royalties |
1,222 | 1,869 | |||||
Management fees due to principal shareholder of WRC Media |
500 | 400 | |||||
Accrued interest |
691 | 1,745 | |||||
Taxes payable, other than income |
312 | 300 | |||||
Other |
1,354 | 1,677 | |||||
| $ | 15,865 | $ | 15,006 | ||||
11. Restructuring and Other Non-recurring Expenses
In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities” (“SFAS 146”). SFAS 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies EITF Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)”. SFAS 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred rather than the date an entity commits to an exit plan. SFAS 146 establishes that fair value is the objective for initial measurement of the liability. The Company adopted SFAS 146 in December 2002.
In January 2002, the Company’s Board of Directors approved a restructuring plan (the “2002 Plan of Restructuring”) and accordingly, the Company incurred charges for restructuring, asset write-downs and other exit costs totaling approximately $4,300.
The 2002 Plan of Restructuring included integration and cost reduction initiatives comprised of closure of facilities and reduction in work force.
109
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
11. Restructuring and Other Non-recurring Expenses — (Continued)
Pursuant to the 2002 Plan of Restructuring, 51 positions were eliminated throughout the Weekly Reader Corporation. Severance and other benefit costs of approximately $1,600 relate to the reduction of these employees from the workforce. This workforce reduction involved each of the three operating units of WRC. Most of the workforce reductions represented administrative and back office related employees. The workforce reductions were completed by December 31, 2002.
Lease termination costs include future obligations under long-term non-cancelable lease agreements at facilities that were vacated following the workforce reductions. The majority of these costs consisted of the estimated lease costs, net of probable sublease income, associated with a portion of the Company’s WAEG office lease at 512 Seventh Avenue in New York, N.Y. which expires in 2015. As a result of the facilities being vacated, certain assets were written off. All office space was vacated prior to accrual of this expense.
Components of the Company’s restructuring plans and other non-recurring expenses, including the plans initiated in 2002, are shown in the following table for 2003:
| Balance at January 1, 2003 |
Charges | Amounts Paid |
Balance at December 31, 2003 |
||||||||||
Severance and other benefits |
$ | 649 | $ | (2 | ) | $ | (627 | ) | $ | 20 | |||
Lease terminations |
2,122 | (514 | ) | (620 | ) | 988 | |||||||
Total |
$ | 2,771 | $ | (516 | ) | $ | (1,247 | ) | $ | 1,008 | |||
During the year ended December 31, 2003, the Company reviewed its restructuring reserve established in 2002 and reduced the reserve by $516. The adjustment primarily resulted from a decrease of $514 resulting from updating the assumptions used in determining the fair value of the remaining lease obligations associated with facilities vacated during 2002.
Components of the Company’s 2002 restructuring plan are shown in the following table for 2004:
| Balance at January 1, 2004 |
Charges | Amounts Paid |
Balance at December 31, 2004 |
||||||||||
Severance and other benefits |
$ | 20 | $ | (7 | ) | $ | (13 | ) | $ | — | |||
Lease terminations |
988 | (8 | ) | (94 | ) | 886 | |||||||
Total |
$ | 1,008 | $ | (15 | ) | $ | (107 | ) | $ | 886 | |||
During the year ended December 31, 2004, the Company reviewed its restructuring reserve established in 2002 and reduced the reserve by $8. The adjustment primarily resulted from a decrease of $8 resulting from updating the assumptions used in determining the fair value of the remaining lease obligations associated with facilities vacated during 2002.
The restructuring reserve totaling approximately $886 at December 31, 2004 is expected to be paid as follows: $132 for the year ending December 31, 2005, 2006 and beyond - $754. These charges are included in accrued expenses and other current liabilities in the consolidated balance sheets.
12. Income Taxes
At December 31, 2004, the Company had available net operating loss carryforwards (NOLs) of approximately $99,668. No tax benefit has been reflected in the accompanying financial statements as the utilization of the operating loss carryforwards is not considered more likely than not. Accordingly, this amount has been fully offset by a valuation allowance.
110
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
12. Income Taxes — (Continued)
The NOLs are scheduled to expire in the following years:
| Amount | ||||
2019 |
$ | 2,070 | ||
2020 |
38,636 | |||
2021 |
15,568 | |||
2022 |
18,845 | |||
2023 |
13,819 | |||
2024 |
10,730 | |||
| $ | 99,668 | |||
In 2002, 2003 and 2004, the Company recorded income tax expense of $101, $(88) and $56, respectively, related to a provision for current state and local taxes.
The Company’s provision for income tax differs from the amount computed by applying the statutory U.S. federal income tax rate of 35% primarily due to state and local taxes and changes in valuation allowances and in 2004 because of the mandatorily redeemable preferred stock dividend which is not deductible for income tax purposes.
111
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
12. Income Taxes — (Continued)
Deferred income taxes reflect the net tax effects of (a) temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, and (b) net operating loss carryforwards. The tax effects of significant items comprising the Company’s net deferred income tax liabilities are as follows:
| 2003 | 2004 | ||||||
Deferred tax assets: |
|||||||
Accrued expenses |
$ | 821 | $ | 1,657 | |||
Other |
3,935 | 4,396 | |||||
Total current deferred tax assets |
4,756 | 6,053 | |||||
Difference between book and tax basis of indefinite lived intangibles |
2,353 | 1,833 | |||||
Difference between book and tax basis of other intangibles |
17,822 | 23,030 | |||||
Net operating loss carryforward |
36,788 | 38,498 | |||||
Other |
1,616 | 1,288 | |||||
Total non-current deferred tax assets |
58,579 | 64,649 | |||||
|
|
|
|
|
||||
Total deferred tax assets |
63,335 | 70,702 | |||||
Deferred tax liabilities: |
|||||||
Difference between book and tax basis of indefinite lived intangibles |
$ | (4,800 | ) | $ | (5,473 | ) | |
Difference between book and tax basis of circulation expenditures |
(1,169 | ) | (1,067 | ) | |||
Other
|
(2,777 | ) | (2,422 | ) | |||
Total deferred tax liabilities |
(8,746 | ) | (8,962 | ) | |||
|
|
|
|
|
||||
Total net deferred tax assets |
54,589 | 61,740 | |||||
Less: Valuation allowance |
(59,389 | ) | (67,213 | ) | |||
Net |
$ | (4,800 | ) | $ | (5,473 | ) | |
Management has determined that the Company is not likely to realize the income tax benefit of its net deferred tax assets. To the extent the Company generates income in future years, the tax provision will reflect the realization of such benefits, with the exception of benefits attributable to acquired deferred tax assets. The recognition of such amount in future years will be allocated to reduce the excess of the purchase price over the net assets acquired and other non-current intangible assets.
As a result of the adoption of SFAS 142 in 2002, the Company continues to record a valuation allowance in excess of its net deferred tax assets, to the extent the difference between the book and tax basis of indefinite lived intangible assets is not expected to reverse during the net operating loss carryforward period. The Company recorded non-cash deferred income tax expense of approximately $3,500 on January 1, 2002 related to the adoption of SFAS 142.
With the adoption of SFAS 142, the Company no longer amortizes the book basis in the indefinite lived intangibles but continues to amortize these intangibles for tax purposes. In 2002, 2003 and 2004, the Company recorded additional non-cash deferred income tax expenses of $600, $700 and $673, respectively, related to the increase in its net deferred tax liability for the tax effect on the net increase in the difference between the book and tax basis in the indefinite lived intangible assets.
112
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
13. Long-term Debt
At December 31, 2003 and 2004, long-term debt consists of the following:
| 2003 |
2004 |
||||||||||||||||||||||||
Debt Instrument |
Face Value |
Unamortized Discount |
Principal Payments |
Carrying Value |
Face Value |
Unamortized Discounts |
Principal Payments |
Carrying Value |
|||||||||||||||||
Senior Subordinated Notes (a) |
$ | 152,000 | $ | 4,276 | $ | — | $ | 147,724 | $ | 152,000 | $ | 3,762 | $ | — | $ | 148,238 | |||||||||
Senior Bank-Term A (b) |
20,150 | — | 6,618 | 13,532 | — | — | — | — | |||||||||||||||||
Senior Bank-Term B (b) |
96,750 | — | 1,216 | 95,534 | — | — | — | — | |||||||||||||||||
Senior Bank-New Term A (b) |
9,767 | — | 155 | 9,612 | — | — | |||||||||||||||||||
Revolving Credit (b) |
5,000 | — | — | 5,000 | — | — | — | — | |||||||||||||||||
Second-Lien Facility |
— | — | — | — | 145,000 | — | — | 145,000 | |||||||||||||||||
Total debt |
283,667 | 4,276 | 7,989 | 271,402 | 297,000 | 3,762 | — | 293,238 | |||||||||||||||||
Less–current portion |
8,477 | — | — | 8,477 | — | — | — | — | |||||||||||||||||
Long-term debt |
$ | 275,190 | $ | 4,276 | $ | 7,989 | $ | 262,925 | $ | 297,000 | $ | 3,762 | $ | — | $ | 293,238 | |||||||||
| (a) | In connection with the recapitalization of the Company in 1999, WRC Media, the Company, and CompassLearning were all co-issuers of 152,000 units consisting of $152,000 in aggregate principal amount of 12 3/4% Senior Subordinated Notes (the Notes) due 2009 and 205,656
shares of common stock. Interest on the Notes is payable semi-annually, on May 15 and November 15. During each year ended December 31, 2002, 2003 and 2004, $19,380 of interest was paid on the Notes. |
Based upon an independent valuation, $144,400 was allocated to the value of the Notes while $3,711 was the value ascribed to the common stock. The Notes were issued net of a $5,807 discount, which is being accreted through maturity using the effective interest method. |
On or after November 15, 2004, the Company may redeem the Notes at a redemption price of 106.375% of the principal amount, plus accrued interest thereon decreasing annually to 100% in 2007 and thereafter. |
The Notes are unconditionally guaranteed by the restricted subsidiaries of WRC Media (Weekly Reader, CompassLearning and ChildU), as defined in the Credit Agreement, as amended. |
| (b) | The Senior Bank Credit Facilities are comprised of the $30,000 revolving credit facility (as amended) maturing in 2008, the $31,000 term loan A facility maturing in 2005, the $100,000 term loan B facility maturing in 2006 and the $10,000 new term loan A facility maturing in
2006. During 2000, the Company applied for and received an annually renewable stand-by letter of credit in the amount of $2,000 in connection with a real estate lease entered into by the Company. While this letter of credit is in effect, the Company’s available borrowing under
the revolving credit facility is reduced by $2,000. As of December 31, 2004 there had been no drawings against this letter of credit. As of December 31, 2004, there was a no outstanding balance under the revolving credit facility. The term loan A facility, the term loan B facility
and the new term loan A facility amortize in quarterly installments. On March 29, 2004, the Company paid off the outstanding balances of its term loan A, term loan B and new term loan A. |
On March 29, 2004, the Company refinanced all of its term loans under its Senior Bank Credit Facilities (the “First-Lien Facility”) with a $145,000 senior, second-priority lien secured financing that was provided to the Company pursuant to a term loan facility (the “Second-Lien Facility”). The proceeds of the Second-Lien Facility were used (i) to refinance in full all term loans outstanding under the First-Lien Facility, (ii) to pay fees and expenses related to the Second-Lien Facility and all transactions contemplated in connection therewith and (iii) for general corporate purposes of the Company.
All payment obligations under the Second-Lien Facility are secured by a second-priority lien on the collateral securing the First-Lien Facility; provided that all obligations under the Second-Lien Facility will
113
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
13. Long-term Debt — (Continued)
rank equally in right of payment with all payment obligations under the First-Lien Facility and will not otherwise be subordinated in any respect to the First-Lien Facility. The final maturity of the Second-Lien Facility is March 29, 2009. At the Company’s option, the loans will bear interest at either the Administrative Agent’s (i) alternate base rate (“Base Rate Loans”) or (ii) reserve- adjusted LIBO rate (“LIBO Rate Loans”) plus, in each case, the “Applicable Margin” (as defined). Applicable Margin means, with respect to (i) Base Rate Loans, a rate of 4.00% per annum and (ii) LIBO Rate Loans, a rate of 5.00% per annum. At December 31, 2004, outstanding loans under the Second-Lien Credit facility had an interest rate of 6.76%.
In addition to paying interest on outstanding loans under its credit facilities, the Company is required to pay a commitment fee to the lenders associated with the revolving credit facility in respect to the unused commitments thereunder at a rate of 0.5% per annum (subject to performance-based step downs). Commitment fees paid for unused revolver commitments for the year ended December 31, 2002, 2003 and 2004 were approximately $97, $81, and $114, respectively.
The Second-Lien Facility is subject to mandatory prepayment with:
| • | the proceeds of the incurrence of certain indebtedness |
| • | the proceeds of certain asset sales or other dispositions |
| • | a change in control |
| • | annually, 50% of the Company’s excess cash flow (as defined) from the prior year. |
The Second-Lien Facility and the Senior Subordinated Notes provide for certain restrictions, including restrictions on asset sales, dividend payments, additional indebtedness, capital expenditures and payments for restricted investments. In addition, the Second-Lien Facility provides for the maintenance of a financial covenant, a maximum ratio (the “Senior Leverage Ratio”) of Senior Secured Debt to trailing four quarter EBITDA (as defined therein) not to exceed 4.25:1.00 for any fiscal quarter, except the fiscal quarter ended June 30, 2005 for which the Senior Leverage Ratio shall not exceed 4.50:1.00, in each case to be tested on the last day of each fiscal quarter and computed for the Company. The Second-Lien Facility also limits the amount of capital expenditures, including all capitalized software development costs and capitalized prepublication costs, to $21.0 million for each year. To the extent permitted, for capital expenditures in any year are less than $21.0 million, the remaining permitted amount may be carried forward to the next succeeding year. In connection with entering into the Second-Lien Facility, the Company entered into an amendment and restatement of its First-Lien Facility, which now consists solely of a $30,000 revolving credit facility.
The First-Lien Facility, as amended and restated, has a maturity of December 29, 2008, and has one financial covenant, a Senior Leverage Ratio of senior secured debt to trailing four quarter EBITDA (as defined therein) not to exceed 4.00:1.00 for any fiscal quarter, except the fiscal quarter ended June 30, 2005 for which the Senior Leverage Ratio may not exceed 4.25:1.00, in each case to be tested on the last day of the fiscal quarter and computed for the Company. The First-Lien Facility also limits the amount of capital expenditures, including all capitalized software development costs and capitalized prepublication costs, to $21.0 million for each year. To the extent permitted, for capital expenditures in any year are less than $21.0 million, the remaining permitted amount may be carried forward to the next succeeding year. Interest on revolving loan borrowings under the First-Lien Facility bear interest at a maximum rate per annum equal to the LIBO rate as defined in the First-Lien Facility plus 3.50% or the alternate base rate as defined in the First-Lien Facility plus 2.50%, which are subject to adjustment on a quarterly basis based on the Company’s leverage ratio for the last four quarters.
As a result of the refinancing, the Company wrote-off the remaining balances of deferred financing costs associated with the First Lien Facility of approximately $467. These costs are included in interest expense,
114
WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
13. Long-term Debt — (Continued)
including amortization of deferred financing costs, on the consolidated statements of operations for the year December 31, 2004.
In connection with the refinancing, WRC Media incurred costs and expenses, primarily investment banking and legal fees, of approximately $6,661. These amounts have been recorded as deferred financing fees by WRC Media at December 31, 2004 and are being amortized by WRC Media over the term of the Second Lien Facility using the effective interest method.
At December 31, 2004, there were no outstanding advances under the Company’s $30,000 revolving credit facility. The Company has stand-by letters of credit, renewable annually, in the amount of $2,075 of which $2,000 serves as security for a real estate lease entered into by the Company and $75 serves as security for certain surety bonds issued on behalf of the Company. The Company’s available borrowing under the revolving credit facility is reduced by any outstanding letters of credit. At December 31, 2004, the Company had, net of the $2,075 in outstanding letters of credit, $27,925 of available credit under the revolving credit facility.
Maturities of long-term debt, including unamortized discount at December 31, 2004, are as follows:
2005 |
$ | — | ||
2006 |
— | |||
2007 |
— | |||
2008 |
— | |||
2009 |
297,000 | |||
Total |
$ | 297,000 | ||
In May of 2002, the Company entered into interest rate swap, which swapped a portion of the fixed rate 12.75% notes for a floating rate. During December of 2002, the Company unwound the interest rate swap. The Company realized a gain of $1,720, on this swap which is included in other income (expense) in the consolidated statement of operations.
Pursuant to the terms of the First and Second-Lien Credit Agreements, the Company is required to enter into or maintain interest rate protection agreements (interest rate swaps, caps, collars or similar agreements) in a notional amount that, when taken together with the aggregate principal amount of Total Debt, as defined, subject to a fixed interest rate, is at least equal to at least 50% of the aggregate principal amount of all Total Debt. On November 15, 2003, the Company entered into a one year interest rate cap agreement with a notional principal of $61,000, which caps the LIBOR based rate, as defined, on those loans at 2.5%. The interest rate protection agreement did not qualify for hedge accounting treatment and as such the Company marks to market the contract at the end of each period. This interest rate cap agreement expired November 15, 2004. Between November 15, 2004 and December 31, 2004, more than 50% of the aggregate principal amount of Total Debt, as defined, is subject to a fixed interest rate. Therefore, the interest rate cap was not renewed during that period.
14. 15% Senior Preferred Stock
The Company has authorized 20,000,000 shares of preferred stock in series and to designate accordingly the dividend, voting, conversion, redemption and liquidations rights for each series. The Company has issued its Parent 3,000,000 shares of 15% Senior Preferred Stock due in 2011. The Preferred stock has an aggregate liquidation preference of $25.00 per share. The Parent holds all of the 3,000,000 shares of preferred stock outstanding and is entitled to receive dividends at 15% per annum, subject to adjustment under certain conditions.
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
14. 15% Senior Preferred Stock — (Continued)
During the years ended December 31, 2002, 2003 and 2004, accrued preferred stock dividends amounted to $16,384, $18,982 and $21,994, respectively. Effective January 1, 2004, the Company adopted the provisions of SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” The adoption of this statement required the Company to reclassify its 15% Senior Preferred Stock (“15% Senior Preferred”) from the mezzanine section of the balance sheet to long-term liabilities. Effective January 1, 2004, dividend payments for the 15% Senior Preferred Stock are recorded as interest expense in the consolidated statement of operations. During the year ended December 31, 2004, the $21,994 of preferred stock dividends have been recorded as interest expense in the statement of operations, resulting from the Company’s adoption of SFAS 150, effective January 1, 2004.
Such accrued dividends reflect penalty dividends of 0.5% for periods prior to November 17, 2001. The Company believes that no penalty dividend is due for subsequent periods. The preferred shareholder may disagree with the Company’s conclusion. The Company may redeem the preferred stock, including unpaid dividends, prior to November 17, 2002 or after November 17, 2004, subject to certain conditions.
In connection with the issuance of WRC Media Inc.’s 15% Senior Preferred Stock in 1999, the Company issued to the senior preferred stockholders, Preferred Stock Warrants, which entitle the senior preferred stockholders to acquire 422,784 shares of Weekly Reader common stock. These warrants entitle the holders to acquire 13% of common stock of Weekly Reader at an exercise price of $0.01 per share and contain a cashless exercise provision. The warrants were immediately exercisable and expire on November 17, 2011.
15. Related Party Transactions
Management Agreements |
In connection with the acquisition of Weekly Reader, the Company entered into a management agreement with the principal shareholder of WRC Media Inc. In accordance with management agreement, the shareholder provides Weekly Reader management consulting and financial advisory services. The agreement has no stated term, but can be terminated by the shareholder upon five days notice. As a result, the Company is obligated to pay the shareholder annual management fees for services totaling $800, which are payable quarterly. In addition, the Company will reimburse the principal shareholder for reasonable out-of-pocket expenses incurred in connection with the performance of its services. During the years ended December 31, 2002, 2003 and 2004, the Company recognized expenses for such management fees in each year of $800. At December 31, 2003 and 2004, other accrued liabilities include approximately $800 and $400 of accrued management fees, respectively.
16. Retirement Plans
Substantially all of the Company’s employees are eligible to participate in a defined contribution plan of the Parent. Pursuant to the provisions of the Plan, the Company is obligated to match 33% of the employee’s contribution to the Plan up to the first 6% of the employee’s compensation. The expense recognized by the Company for the plan during the years ended December 31, 2002, 2003 and 2004, was $977, $991 and $1,051, respectively.
A subsidiary of Weekly Reader sponsors a defined benefit pension plan (the “American Guidance Plan”) for the benefit of its employees. The benefits to be paid under the American Guidance Plan are based on years of service and compensation amounts for the average of the highest five consecutive plan years. The American Guidance Plan is funded by means of contributions to the plan’s trust. The pension funding policy is consistent with the funding requirements of U.S. Federal and other governmental laws and regulations. Plan assets consist primarily of fixed income, equity and short-term investments.
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
16. Retirement Plans — (Continued)
The net pension expense for the American Guidance Plan and the reconciliation of the funded status of the Plan at December 31, 2003 and 2004 and the accrued obligation in the consolidated balance sheets are as follows (based on a measurement date of July 1, 2004):
| 2003 | 2004 | ||||||
Change in benefit obligation: |
|||||||
Projected benefit obligation, beginning of year |
$ | 14,379 | $ | 15,499 | |||
Service cost |
916 | 900 | |||||
Interest cost |
883 | 949 | |||||
Actuarial loss |
(109 | ) | 217 | ||||
Benefits paid |
(570 | ) | (613 | ) | |||
Projected benefit obligation, end of year |
$ | 15,499 | $ | 16,952 | |||
Change in plan assets: |
|||||||
Fair value of plan assets, beginning of year |
$ | 7,269 | $ | 9,656 | |||
Actual return on plan assets |
1,928 | 1,391 | |||||
Employer contributions |
1,029 | 2,254 | |||||
Benefits paid |
(570 | ) | (613 | ) | |||
Fair value of plan assets, end of year |
$ | 9,656 | $ | 12,688 | |||
Funded status at December 31, |
|||||||
Plan assets less than benefit obligation |
$ | (5,842 | ) | $ | (4,264 | ) | |
Unrecognized actuarial loss |
3,754 | 3,379 | |||||
Accrued pension cost |
$ | (2,088 | ) | $ | (885 | ) | |
Amounts recognized in consolidated balance sheets: |
|||||||
Accrued benefit liability |
$ | (3,987 | ) | $ | (2,657 | ) | |
Accumulated other comprehensive loss |
1,899 | 1,772 | |||||
| $ | (2,088 | ) | $ | (885 | ) | ||
Components of net periodic benefit cost: |
|||||||
Service cost |
$ | 916 | $ | 900 | |||
Interest cost |
883 | 949 | |||||
Expected return on plan assets |
(675 | ) | (967 | ) | |||
Amortization of unrecognized net actuarial loss |
294 | 169 | |||||
Net periodic benefit cost |
$ | 1,418 | $ | 1,051 | |||
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
16. Retirement Plans — (Continued)
| 2003 | 2004 | ||||||
Accumulated benefit obligation and fair value of assets: |
|||||||
Accumulated benefit obligation |
$ | (13,644 | ) | $ | (15,345 | ) | |
Fair value of assets |
$ | 9,656 | $ | 12,688 | |||
Weighted-average assumptions as of end of year |
|||||||
Discount rate |
6.25 | % | 5.80 | % | |||
Expected return on plan assets |
9.0 | % | 8.25 | % | |||
Rate of compensation increase |
3.5 | % | 3.25 | % | |||
The Company developed the expected long-term rate of return on assets assumption by considering the current level of expected returns on risk free investments (primarily government bonds) the historical level of the risk premium associated with other asset classes in which the portfolio is invested and the expectation for future returns on each asset class. The expected return for each asset class was weighted based on the aggregate target asset allocation to develop the expected long-term rate of return on assets assumption for the portfolio. The Company reviews the expected rate of return on an annual basis and revises it as appropriate.
The American Guidance Plan investment objective is a heavily weighted equity portfolio with an emphasis on long-term growth. Assets held include high-quality, well-capitalized stocks of established companies and were allocated 87% to equity securities and 11% to fixed income securities in 2003 and 82% to equity securities and 11% fixed income securities in 2004:
| 2003 | 2004 | ||||||
Asset Category: |
|||||||
Equity Securities |
87.0 | % | 82.0 | % | |||
Debt Securities |
11.0 | % | 11.0 | % | |||
Other |
2.0 | % | 7.0 | % | |||
Total |
100.0 | % | 100.0 | % | |||
The Company expects to contribute $1,275 to the American Guidance Plan in 2005.
The following benefit payments, which reflect future service, as appropriate, are expected to be paid by the American Guidance Plan during the next ten years:
Pension Benefits |
||||
2005 |
$ | 687 | ||
2006 |
683 | |||
2007 |
695 | |||
2008 |
765 | |||
2009 |
858 | |||
2010-2014 |
6,104 |
A minimum pension liability adjustment is required when the actuarial present value of the accumulated plan benefits exceeds plan assets and accrued pension liability. In 2002, 2003 and 2004, a minimum liability adjustment of ($3,041), $1,458 and $127 respectively, was recorded as a component of other comprehensive income (loss) and reported in accumulated other comprehensive loss as a component of stockholders’ deficit.
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
17. Rabbi Trust
In 1998, as part of its acquisition of American Guidance, a subsidiary of Weekly Reader, approximately $19,600 of the American Guidance purchase price was paid through contributions to several Rabbi Trusts to settle American Guidance’s obligations due to employees under American Guidance’s predecessor company stock option, employee stock ownership and deferred compensation plans. Payments to the beneficiaries of the Rabbi Trusts are taxable upon distribution from the Rabbi Trusts with Weekly Reader receiving a corresponding deduction for income tax purposes. The assets of the Rabbi Trusts and a related liability are presented in other current assets and accrued expenses, respectively on the consolidated balance sheets. The balance of the liability as of December 31, 2003 and 2004 was approximately $1,006 and $734, respectively. The marketable securities in the Rabbi Trusts have been classified as trading securities and investment income of $156, $55 and $65 has been offset with the related compensation expense for the same amount on the accompanying consolidated statements of operations for the years ended December 31, 2002, 2003 and 2004, respectively. Marketable securities in the Rabbi Trust have been recorded at fair value, based on quoted market prices, in the accompanying consolidated balance sheets.
18. Commitments and Contingencies
Leases |
The Company has non-cancelable operating leases for office, warehouse space and equipment that include future minimum rental commitments as follows:
| Lease Commitments |
Sublease Rentals |
Net Commitments |
||||||||
Year Ending December 31, |
||||||||||
2005 |
$ | 3,698 | $ | (348 | ) | $ | 3,350 | |||
2006 |
3,231 | (352 | ) | 2,879 | ||||||
2007 |
2,508 | (359 | ) | 2,149 | ||||||
2008 |
2,001 | (359 | ) | 1,642 | ||||||
2009 |
2,055 | (241 | ) | 1,814 | ||||||
Thereafter |
9,841 | — | 9,841 | |||||||
Total |
$ | 23,334 | $ | (1,659 | ) | $ | 21,675 | |||
Rent expense, net of sublease rentals, under operating leases was $3,422, $2,997 and $3,325 for the years ended December 31, 2002, 2003 and 2004, respectively.
Litigation |
The Company is a party to litigation arising in the normal course of business. Management regularly analyzes current information and, as necessary, provides accruals for probable liabilities on the eventual disposition of these matters. Management believes that the effect on its results of operations and financial position, if any, for the disposition of these matters, will not be material.
SEC Inquiry |
As previously disclosed in our Form 8-K filed with the SEC on December 15, 2003, the SEC has been conducting an informal inquiry concerning the Company. The SEC’s inquiry focused on a single December 2002 transaction involving the Company’s CompassLearning unit, with respect to which the Company initially recognized revenue in the 4th Quarter of 2002, established a bad debt reserve in the 1st Quarter of 2003 for the full amount of the previously recorded accounts receivable related to this transaction and subsequently reversed entirely when the Company restated in 2004 its financial statements for 2002 and 2003
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WEEKLY READER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Amounts in thousands)
18. Commitments and Contingencies — (Continued)
for this and other matters, as described in our Form 10-K filed with the SEC on June 15, 2004. In connection with this inquiry, on February 3, 2005 the Company’s then Executive Vice President, Martin E. Kenney, and two non-executive employees of CompassLearning, an affiliated company, received “Wells” notices from the staff of the SEC informing them that the staff intends to recommend that the SEC commence actions against them, alleging violations of Section 10(b) of the Securities Exchange Act of 1934, Rule 10b-5 thereunder and certain other federal securities laws. The Company did not receive a “Wells” notice from the staff of the SEC and has no reason to believe that it will become the subject of an enforcement action related to the SEC investigation.
15% Senior Preferred Stock due 2011 |
In 1999, the Company issued 3,000,000 shares of 15% Senior Preferred Stock due in 2011 with a liquidation preference of $25.00 per share. The Senior Preferred Stock shall accrue dividends at a rate of 15% per annum, subject to adjustment if the Company fails to redeem all outstanding shares of such preferred stock in connection with a mandatory redemption or change of control. Preferred Stock dividends for the years ended December 31, 2002, 2003 and 2004, amounted to $16,384, $18,982 and $21,994, respectively, and are payable in additional shares of Senior Preferred Stock. Such accrued dividends reflect penalty dividends of 0.5% for periods prior to November 17, 2001. While the Company believes that no penalty dividend is due for subsequent periods, the preferred shareholder may disagree with that conclusion.
19. Supplemental Disclosure of Cash Flow Information
| 2002 | 2003 | 2004 | ||||||||
Cash paid during the period for interest |
$ | 27,870 | $ | 27,779 | $ | 28,170 | ||||
Cash paid during the year for income taxes |
$ | 203 | $ | 45 | $ | 50 | ||||
Non-cash financing activities: |
||||||||||
Preferred stock dividends accrued |
$ | 16,384 | $ | 18,982 | $ | 21,994 (1) | ||||
| (1) | During the year ended December 31, 2004, the $21,994 of preferred stock dividends have been recorded as interest expense in the statement of operations ,resulting from the Company’s adoption of SFAS 150, effective January 1, 2004. |
20. Quarterly Data (Unaudited)
The following is a summary of the unaudited selected quarterly results for which all adjustments necessary for a fair presentation of each period have been included.
| Three Months Ended | |||||||||||||
| March 31 | June 30 | September 30 | December 31 | ||||||||||
2004 |
|||||||||||||
Revenues |
$ | 34,428 | $ | 32,511 | $ | 47,586 | $ | 47,340 | |||||
Gross profit |
25,927 | 23,889 | 36,767 | 35,917 | |||||||||
Operating costs and expenses |
21,132 | 19,217 | 24,343 | 26,062 | |||||||||
Income / (loss) from operations |
4,795 | 4,672 | 12,424 | 9,855 | |||||||||
Net income / (loss) |
(8,308 | ) | (8,615 | ) | (1,159 | ) | (4,114 | ) | |||||
2003 |
|||||||||||||
Revenues |
$ | 34,819 | $ | 29,711 | $ | 44,270 | $ | 43,310 | |||||
Gross profit |
26,380 | 21,803 | 33,919 | 32,269 | |||||||||
Operating costs and expenses |
19,400 | 17,832 | 20,049 | 25,165 | |||||||||
Income / (loss) from operations |
6,980 | 3,971 | 13,870 | 7,104 | |||||||||
Net income / (loss) |
(226 | ) | (3,118 | ) | 6,345 | (550 | ) | ||||||
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ITEM 9. Changes in and Disagreements With Accountants On Accounting and Financial Disclosure |
None.
ITEM 9A. Controls and Procedures |
WRC Media management, including the interim Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of disclosure controls and procedures pursuant to Exchange Act Rule 13a-15 in 2004. Based on that evaluation, the interim Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures are effective in ensuring that all material information to be filed in this Annual Report on Form 10-K has been made known to them in a timely fashion. There have been no significant changes in the Company’s internal controls, or in other factors that could significantly affect internal controls, subsequent to the date the interim Chief Executive Officer and Chief Financial Officer completed their evaluation. In making this evaluation, WRC Media management considered the “material weaknesses” (as defined under standards established by the American Institute of Certified Public Accountants) that were identified and communicated to us by our independent registered public accounting firm in connection with the audit of our consolidated financial statements for the year ended December 31, 2003. In conjunction with their 2003 audit, our independent registered public accounting firm identified the following two such “material weaknesses”: (1) numerous adjusting entries proposed were recorded by the Company to correct the underlying books and records, including previously reported results for 2002 and 2001, and (2) there were an insufficient number of qualified accounting personnel appropriate for their positions, specifically within the external financial reporting area. During 2004 the Company took a number of steps to improve the effectiveness of our internal controls and remediate the “material weaknesses” identified during 2003 including, but not limited to:
| • | we hired a Chief Financial Officer in September 2004 to strengthen the accounting and reporting process and provide the company with additional financial executive management; |
| • | we hired an Assistant Treasurer/Controller in February 2004 to increase resources in the external reporting area; |
| • | we centralized our finance and accounting organization. The operating unit controllers, who formerly reported to the operating unit general managers, now report directly to the Company’s Chief Financial Officer; |
| • | we established a Disclosure Committee, consisting of senior personnel from the business units and the finance group, as well as legal counsel, and we now follow an extensive review and certification process in connection with our filings with the SEC. |
Management believes these actions have remediated the “material weakness” identified by our independent registered public accounting firm in connection with their audit for the year ended December 31, 2003. Our independent auditors did not issue a “material weaknesses” letter in connection with their audit of our consolidated financial statements for the year ended December 31, 2004.
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PART III
ITEM 10. Directors and Executive Officers of the Registrant |
The following table sets forth information with respect to the persons who, as of the date of this current report, were serving or are expected to serve in the near future as directors and executive officers of each of WRC Media, Weekly Reader and CompassLearning, as well as those executive officers and employees of American Guidance and World Almanac. Each director holds office until the next annual meeting of shareholders or until his successor has been elected and qualified.
Name |
Age | Position | |||||
Timothy C. Collins |
48 | Director, WRC Media, Weekly Reader and CompassLearning | |||||
D. Ronald Daniel |
75 | Non-Executive Chairman, WRC Media, Weekly Reader and CompassLearning; Chairman of Compensation Committee | |||||
Ralph D. Caulo |
65 | Director, WRC Media, Weekly Reader, and CompassLearning; and interim Chief Executive Officer, WRC Media | |||||
Charles L. Laurey |
34 | Director, WRC Media, Weekly Reader and CompassLearning; Member of Audit and Compensation Committees and Secretary, WRC Media, Weekly Reader and CompassLearning | |||||
Peter E. Berger |
54 | Director, WRC Media, Weekly Reader and CompassLearning; Chairman of Audit Committee | |||||
David M. Malcolm |
57 | Director, WRC Media, Weekly Reader and CompassLearning, Member of Compensation Committee | |||||
David F. Burgstahler |
36 | Director, WRC Media, Weekly Reader and CompassLearning | |||||
Richard Nota |
44 | Executive Vice President, Operations, WRC Media | |||||
Robert S. Yingling |
43 | Chief Financial Officer, WRC Media | |||||
Emily Swenson |
51 | President, Weekly Reader | |||||
Kevin Brueggeman |
47 | President, American Guidance Service | |||||
Rajeev Puri |
37 | President, CompassLearning | |||||
Timothy C. Collins, Director, WRC Media, Weekly Reader and CompassLearning. Since June 2, 1999, Timothy C. Collins has served as a Director of WRC Media and CompassLearning. Mr. Collins was named a Director of Weekly Reader as of November 17, 1999. Mr. Collins founded Ripplewood Holdings L.L.C. in 1995 and currently serves as its Senior Managing Director and Chief Executive Officer. From 1991 to 1995, Mr. Collins managed the New York office of Onex Corporation, a leveraged buy-out group headquartered in Canada. Previously, Mr. Collins was a Vice President at Lazard Freres & Company and held various positions at Booz, Allen & Hamilton and Cummins Engine Company. He also currently serves on the Board of Directors of Ripplewood Holdings L.L.C., Shinsei Bank, Ltd. (formerly The Long-Term Credit Bank of Japan, Limited), Asbury Automotive Group Inc., WRC Media Inc. and various other privately held Ripplewood portfolio companies. Mr. Collins received a master’s in Business Administration from Yale University’s School of Management and Organization and a Bachelor’s Degree in Philosophy from DePauw University.
D. Ronald Daniel, Non-executive Chairman, WRC Media, Weekly Reader and CompassLearning. As of November 17, 1999, Mr. Daniel was named Non-Executive Chairman of WRC Media, Weekly Reader and CompassLearning. Mr. Daniel is a Director of McKinsey & Company, Inc., having served as Managing Director from 1976 to 1988. He has been a management consultant for 48 years. He serves as the non-executive chairman of Ripplewood Holdings L.L.C., which specializes in private equity investments and is
122
the general partner of Ripplewood Partners, L.P., which controls EAC III, the majority owner of WRC Media. Since September 1998, he has served as an advisory board member of Falconhead Capital, LLC. In addition, he served for 15 years as Treasurer of Harvard University, as a member of Harvard University’s seven-person Corporation, a member of the Harvard University Board of Overseers, Chairman of the Harvard Management Company and Chairman of the Board of Fellows of the Harvard Medical School.
Ralph D. Caulo, Director, WRC Media, Weekly Reader and CompassLearning, interim CEO, WRC Media. Prior to his role as interim CEO of WRC Media, since November 1999, Mr. Caulo was Non-Executive Vice-Chairman. From 1998 until November 1999, Mr. Caulo served as an outside consultant at Ripplewood Holdings L.L.C., which specializes in private equity investments and is the general partner of Ripplewood Partners, L.P. which controls EAC III, the majority owner of WRC Media. From 1991 to 1998, Mr. Caulo held the dual position of Executive Vice President of Simon & Schuster and President of its Educational Publishing Group. In this position, Mr. Caulo oversaw one of the world’s largest educational publishers and its Allyn & Bacon, Prentice Hall, Silver Burdett Ginn, Modern Curriculum, Computer Curriculum Corporation (CCC) and Educational Management Group (EMG) imprints. From 1989 until 1991, Mr. Caulo was President and Chief Executive Officer of Harcourt Brace Jovanovich. He began his career at Harcourt Brace Jovanovich in sales in 1974, and then moved through marketing, editorial, development and senior management to become President and CEO in 1988.
Charles L. Laurey, Director, WRC Media, Weekly Reader and CompassLearning and Secretary, WRC Media, Weekly Reader and CompassLearning. Since June 2, 1999, Charles L. Laurey has served as a Director of WRC Media and CompassLearning. As of November 17, 1999, Mr. Laurey was named a Director of Weekly Reader and Secretary of CompassLearning and Weekly Reader. In October 1997, he joined Ripplewood Holdings L.L.C. which is an affiliate of Ripplewood Partners, L.P. which controls EAC III, the majority owner of WRC Media. Prior to joining Ripplewood Holdings L.L.C., Mr. Laurey worked from August 1994 until September 1997 in Morgan Stanley & Co.’s Corporate Finance Department in New York and in the Mergers, Acquisitions and Restructurings Department in London, most recently as an associate. He started his career as a strategy consultant in The Hague, The Netherlands.
Peter E. Berger, Director, WRC Media, Weekly Reader and CompassLearning. Since 2000 Mr. Berger has been a Managing Director at Ripplewood Holdings L.L.C. From 1998 to September 2000, Mr. Berger through a private investment/advisory entity, Mediacom Ventures L.L.C. advised and facilitated acquisition opportunities and operational improvements for media and telecommunications businesses. From 1996-1998, Mr. Berger was a Managing Director and Chief Financial Officer of Ripplewood Holding L.L.C. Prior to that Mr. Berger was a partner with Arthur Andersen L.L.P .and was the managing partner of their Corporate Finance practice in the Americas. Mr. Berger was also a Managing Director in Bear, Stearns & Co.’s Merger and Acquisition department. Mr. Berger is a Director of Kepner- Tregoe Inc. and is a member of the boards of various Ripplewood portfolio companies. Mr. Berger graduated with honors from Boston University and has an M.B.A. from Columbia University.
David M. Malcolm, Director, WRC Media, Weekly Reader and CompassLearning. David M. Malcolm has served as a Director of WRC Media, Weekly Reader and CompassLearning since 2002. Since January of 2001, Mr. Malcolm has served as Executive Vice President and Head of Investment Banking and a member of Executive Committee of SG Cowen. Mr. Malcolm is also a member of Management Committee of SG US. Mr. Malcolm is also President of SG Capital Partners L.L.C., the merchant banking affiliate of Societe Generale. From 1996 to 2001 he headed the Global Leveraged Finance Group for Societe Generale. He serves on the Boards of Five Star Food Services, Inc., the fifth largest vending food service operation in the U.S.; Ricerca Biosciences, LLC, a leading provider of development services to biotechnology and pharmaceutical companies; and RNB Communications, Inc., a leading provider of data center and hosted solutions in the Western United States. He is a graduate of Wesleyan University and the Harvard Graduate School of Business Administration.
David F. Burgstahler, Director, WRC Media, Weekly Reader and CompassLearning. As of May 31, 2000, David F. Burgstahler has been a director of WRC Media, Weekly Reader and CompassLearning. He is a Director of Credit Suisse First Boston and a Partner of DLJ Merchant Banking Partners. Mr. Burgstahler joined Credit Suisse First Boston in 2000 when it merged with Donaldson, Lufkin & Jenrette. He joined
123
Donaldson, Lufkin & Jenrette in 1995. Mr. Burgstahler also serves as a director of Focus Diagnostics Inc., Visant Corporation and Warner Chilcott Corporation.
Richard Nota, Executive Vice President, Operations, WRC Media. Richard Nota has over 20 years experience in finance and operations. In September 2004, Mr. Nota was promoted to EVP, Operations. In this capacity, he has overall operational management responsibilities including strategic planning, facilities management, IT, legal, general administration, risk management and investor relations. Working directly with all operating executives, Mr. Nota leads WRC Media’s overall strategy development and operating plan for the company across the divisions. Prior to September 2004, Mr. Nota served as Senior Vice President, Finance and Principal Financial Officer of WRC Media having overall financial management responsibilities including finance and accounting, strategic planning, treasury and risk management and investor relations. From 2000 to October 2003, he served as Vice President, Finance of WRC Media. Prior to Mr. Nota joining WRC Media, he held several executive and management positions, including serving as Vice President, Accounting and Taxation from 1989 to 1995 at Pergament Home Centers, Inc., a retail company. From 1995 until joining WRC Media, Mr. Nota served as Controller at Heating Oil Partners, L.P., a retail distributor of petroleum products. Prior to that Mr. Nota was with Arthur Andersen LLP. At Andersen, Mr. Nota was a supervisor in the Audit Division.
Robert S. Yingling, Chief Financial Officer, WRC Media Inc. Robert S. Yingling has over 20 years experience in financial management. In September 2004, Mr. Yingling joined WRC Media as CFO with overall responsibility for finance and accounting, budgeting and reporting. Mr. Yingling previously served as CFO for Duncan Capital Group LLC from March 2004 to July 2004. From March 2003 until February 2004, Mr. Yingling was a Director of Finance at Smiths Group plc, a diversified UK engineering company. Prior to that, he served as CFO of Big Star Entertainment, Inc., where he led their Initial Public Offering, and as an independent consultant to media and technology companies. Mr. Yingling was previously a manager in the Audit and Business Advisory Division of Arthur Andersen. Since April 2004, Mr. Yingling has been a Director of Scanvec Amiable Ltd. and is Chairman of their Audit Committee. Mr. Yingling has an M.B.A. from the Columbia Business School and graduated from Lehigh University with a B.S. in Accounting. He is a Certified Public Accountant and a member of the American Institute of Certified Public Accountants and the New York State Society of CPAs.
Emily Swenson, President, Weekly Reader. Since October 2003, Emily Swenson has been President of Weekly Reader Corporation, responsible for the magazine and supplementary products publishing businesses at Weekly Reader. Ms. Swenson has over 20 years of education and media experience. Ms. Swenson was formerly EVP and Chief Operating Officer of Children’s Television Workshop, with responsibilities for the TV, Home video and film production as well as book and magazine publishing businesses. At Children’s Television Workshop, Ms. Swenson was responsible for other divisions including finance, human resources, legal, strategic planning and research and marketing. Ms. Swenson graduated from Trinity College with a B.A. in American Studies and Yale University with a Master’s in Management.
Kevin Brueggeman, President, American Guidance Service, Inc. Kevin Brueggeman has led the development and execution of the business strategy for AGS Publishing since joining the company in August 2003. Mr. Brueggeman has 10 years of executive management experience in the educational publishing, licensure/certification testing and healthcare industries. Prior to joining AGS, Mr. Brueggeman served as the President and Chief Executive Officer of Experior Assessments, LLC, a licensure and certification testing joint-venture subsidiary of The Thomson Corporation and Educational Testing Service (ETS). Mr. Brueggeman also served as Acting President of the Insurance Testing Corporation and Chief Marketing Officer of The Chauncey Group International, Ltd. both of which were ETS subsidiaries. Previously, Mr. Brueggeman served as a Business Unit Director for the assessments division of National Computer Systems, Inc. Mr. Brueggeman brings 15 years of experience in marketing, business development, sales, operations, and technology product development and management to the company. He completed the Minnesota Executive Program at the University of Minnesota Carlson School of Management and graduated with a bachelor’s degree from the University of Wisconsin-La Crosse.
Rajeev Puri, President, CompassLearning. Rajeev Puri, President, is leading the development and execution of CompassLearning’s business strategy. Mr. Puri brings 15 years of experience in sales,
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management, business development, marketing, product development, and turnarounds for technology based businesses. Prior to assuming his current role, Mr. Puri has held several positions at CompassLearning’s parent company, WRC Media, including Group Vice President of the Assessment, Curriculum, and Educational Technology Group, Senior Vice President of Corporate Business Development/Acquisitions and CTO. Prior to joining WRC Media, Mr. Puri was the CTO for FTA Direct, Inc., a supply chain and financial optimization software and services start-up. Prior to FTA Direct, Mr. Puri was a Senior Principal at American Management Systems, Inc. (AMS) where he co-led the health care practice. At AMS, Mr. Puri led the turnaround of the software and services practice for health care claims management. Mr. Puri has worked in several industries, including education, publishing, textiles, healthcare, banking, consumer goods, telecommunications, insurance, high tech, developing technology based solutions. He is director of ThinkBox, Inc., and serves on the technical advisory board for Pharus Advisors. Mr. Puri graduated from the University of Pennsylvania with a bachelor’s degree in electrical engineering, Cum Laude.
ITEM 11. Executive Compensation |
The following table summarizes, for the fiscal year ended the last day of December 2004, all compensation paid to (i) the chief executive officer of each registrant for fiscal year 2004, (ii) up to the five most highly compensated executive officers serving at the end of December 2004 in all capacities in which they served, including those executive officers of WRC Media Inc., Weekly Reader Corporation and CompassLearning Inc., who performed policy making functions for those entities and were serving as such at the end of December 2004 in all capacities in which they served, and (iii) up to two additional individuals employed by each registrant who were not serving as executive officers at the end of December 2004 but received at least as much compensation as the fourth most highly compensated executive officer of the registrant for whom they were employed:
SUMMARY COMPENSATION TABLE
| Annual Compensation |
Long-term Compensation |
Options/SAR Grants in Last Fiscal Year |
|||||||||||||||||||||||||||
Name and Principal Position |
Year | Salary ($) | Bonus ($)(a) | 401 k ($) (b) | Other Annual Compensation ($) (c) |
Awards Securities Underlying Options/ SARS (#)(d) |
Individual Grants |
% of Total Options/SARS Granted to Employees in Fiscal Year |
Exercise Price ($/Sh) |
Grant Date Fair Value ($/Sh) |
|||||||||||||||||||
Ralph Caulo |
2004 | 402,500 | — | — | — | 93,762 | |||||||||||||||||||||||
Interim Chief Executive Officer |
2003 | 414,950 | — | — | — | 93,762 | |||||||||||||||||||||||
WRC Media |
2002 | 336,231 | 100,000 | — | — | 93,762 | |||||||||||||||||||||||
Martin E. Kenney, Jr. (e) |
2004 | 597,115 | 200,000 | 13,000 | 12,000 | 324,294 | |||||||||||||||||||||||
Former Chief Executive Officer |
2003 | 611,785 | 200,000 | 12,000 | 12,000 | 324,294 | |||||||||||||||||||||||
WRC Media |
2002 | 537,404 | 350,000 | 12,500 | 12,000 | 324,294 | |||||||||||||||||||||||
Richard Nota |
2004 | 257,923 | 180,365 | 13,000 | 12,000 | 27,500 | |||||||||||||||||||||||
Executive Vice President, Operations |
2003 | 215,455 | 130,000 | 10,935 | 12,000 | 27,500 | |||||||||||||||||||||||
WRC Media |
2002 | 189,260 | 155,000 | 12,124 | 12,000 | 22,500 | |||||||||||||||||||||||
Rajeev Puri |
2004 | 230,442 | 104,615 | 11,708 | 42,000 | (h) | 60,000 | ||||||||||||||||||||||
President, CompassLearning, Inc. |
2003 | 180,000 | 162,795 | 10,800 | 12,000 | 60,000 | |||||||||||||||||||||||
| 2002 | 186,923 | 135,000 | 11,000 | 12,000 | 45,000 | ||||||||||||||||||||||||
Kevin Brueggeman |
2004 | 243,000 | 20,000 | 6,075 | 6,000 | 5,000 | |||||||||||||||||||||||
President, American Guidance Service, Inc. (f) |
2003 | 86,539 | — | — | 2,500 | 5,000 | |||||||||||||||||||||||
Emily Swenson |
2004 | 237,531 | 11,720 | 10,617 | 12,000 | 5,000 | |||||||||||||||||||||||
President, Weekly Reader Corporation (g) |
2003 | 41,156 | — | — | 2,500 | 5,000 | |||||||||||||||||||||||
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(a)
(b)
(c)
(d)
(e)
(f)
<
| (g) | Represents partial year from October through December 2003. |
| (h) | Includes relocation expenses of $30,000. |
Director Compensation |
Our directors do not receive compensation, except as officers or employees.
ITEM 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters |
Ownership of Stock |
As used in the three sections below describing the beneficial ownership of WRC Media, Weekly Reader and CompassLearning, “beneficial ownership” means the sole or shared power to vote, or direct the voting of, a security, or the sole or shared investment power with respect to a security. An example is the power to dispose of, or direct the disposition of, a security. A person is deemed as of any date to have “beneficial ownership” of any security that the person has the right to acquire within 60 days after that date. For purposes of computing the percentages of outstanding shares held by each person named in the three sections below, any security that the person has the right to acquire within 60 days of the date of calculation is deemed to be outstanding, although this security is not deemed to be outstanding for purposes of calculating the percentage ownership of any other person.
Beneficial Ownership of WRC Media |
The following tables list, as of the date of this current report, information known to us regarding the beneficial ownership of WRC Media common stock by:
| • | each person known by WRC Media to be the beneficial owner of more than 5% of the outstanding WRC Media common stock; |
| • | each of the directors and the executive officers listed under “Executive Compensation;” and |
| • | all directors and the executive officers listed under “Executive Compensation,” as a group. |
As of the date of this current report, the total number of outstanding shares of WRC Media common stock was 7,008,406. In addition there were 828,021 exercisable options to purchase shares of WRC Media common stock outstanding on that date. Except as otherwise noted, the persons named in the tables have sole voting and investment power with respect to all shares shown as beneficially owned by them. The information concerning beneficial ownership is based on statements furnished to us by the beneficial owners and assumes that 7,008,406 shares of common stock have been issued and are outstanding.
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WRC MEDIA COMMON STOCK
Common Stock |
Name and Address of Beneficial Owner | Amount and Nature of Beneficial Ownership (a) |
Percent of Class (a) | |||||||
| EAC III c/o Ripplewood Holdings L.L.C. 1 Rockefeller Plaza, 32nd Floor New York, NY 10020 |
5,698,515 | (b) | 71.8 | % | ||||||
| SGC Partners II LLC 1221 Avenue of the Americas New York, NY 10020 |
1,694,039 | 21.3 | % | |||||||
| EAC IV, L.L.C. c/o Ripplewood Holdings L.L.C. 1 Rockefeller Plaza, 32nd Floor New York, NY 10020 |
5,698,515 | (c) | 71.8 | % | ||||||
| Timothy C. Collins | 5,698,515 | (d) | 71.8 | % | ||||||
| Charles L. Laurey | 5,700,151 | (e) | 71.8 | % | ||||||
| D. Ronald Daniel | 5,698,515 | (f) | 71.8 | % | ||||||
| Peter E. Berger | 5,698,515 | (g) | 71.8 | % | ||||||
| David M. Malcolm | 1,694,039 | (h) | 21.3 | % | ||||||
| WRC MEDIA INC. 512 Seventh Avenue, 22nd Floor New York, NY 10018 |
||||||||||
| Martin E. Kenney, Jr. | 340,422 | (i) | 4.3 | % | ||||||
| Ralph D. Caulo | 101,826 | (j) | 1.3 | % | ||||||
| Rajeev Puri | 60,000 | (k) | * | |||||||
| Richard Nota | 32,876 | (l) | * | |||||||
| Weekly Reader Corporation 512 Seventh Avenue, 22nd Floor New York, NY 10018 |
||||||||||
| Emily Swenson | 5,000 | (m) | * | |||||||
| Kevin Brueggeman | 5,000 | (n) | * | |||||||
| All directors of WRC Media and the executive officers listed under “Executive Compensation” as a group (12 persons) | 7,939,314 | (d)-(n) | 100.0 | % | ||||||
| * | Represents holdings of less than 1%. |
| (a) | Calculated excluding all shares issuable pursuant to options except, as to each person, the shares issuable to that person pursuant to options immediately exercisable or exercisable within 60 days from the date of this current report. |
| (b) | Represents 4,870,494 shares held directly and 828,021 shares held indirectly through its rights granted to it under the management shareholder agreements entered into by some executives of WRC Media, Weekly Reader and CompassLearning. For a description of these agreements, see “Certain Relationships and Related
Transactions–Management Shareholder Agreements.” Each of EAC IV L.L.C., Co-Investment Partners, L.P., The Northwestern Mutual Life Insurance Company, Jackson National Life Insurance Company and Blue Ridge Investments, L.L.C., an affiliate of Bank of America, N.A. owns 41.4%, 10.3%, 6.8%, 3.4% and 0.4%,
respectively, of the beneficial ownership in WRC Media EAC III. |
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| (c) | Represents the beneficial ownership of shares through its ownership of 66.4% of the membership interests of EAC III and the rights granted to EAC III under the management shareholder agreements entered into by some executives of WRC Media, Weekly Reader and CompassLearning and the limited liability company
agreement of EAC III. EAC IV L.L.C. is controlled by Ripplewood Partners, L.P., an affiliate of Ripplewood Holdings L.L.C. |
| (d) | Represents 5,698,515 shares beneficially owned through Mr. Collins’ position as Senior Managing Director and Chief Executive Officer of Ripplewood Holdings L.L.C. which is the general partner of Ripplewood Partners, L.P. which controls EAC III. |
| (e) | Represents 1,636 shares held directly and 5,698,515 shares beneficially owned through Mr. Laurey’s position as Managing Director of Ripplewood Holdings L.L.C. which is the general partner of Ripplewood Partners, L.P. which controls EAC III. |
| (f) | Represents beneficial ownership of 5,698,515 shares through Mr. Daniel’s position as the Non-executive chairman of Ripplewood Holdings L.L.C., which is the general partner of Ripplewood Partners, L.P., which controls EAC III. |
| (g) | Represents beneficial ownership of 5,698,515 shares through Mr. Berger’s position as the Managing Director of Ripplewood Holdings L.L.C., which is the general partner of Ripplewood Partners, L.P., which controls EAC III. |
| (h) | Represents beneficial ownership of 1,694,039 shares through Mr. Malcolm’s position as President and Chief Executive Officer of SG Capital partners LLC, which is the general partner of SG Merchant Banking Fund L.P., which controls SGC Partners II LLC. |
| (i) | Represents 16,128 shares held directly and 324,294 shares issuable upon exercise of options granted under a management share and his employment agreement. |
| (j) | Represents 8,064 shares held directly and 93,762 shares issuable upon exercise of options to be granted under Mr. Caulo’s consulting agreements and employment with WRC Media. |
| (k) | Represents 60,000 shares issuable upon exercise of options granted under an employment agreement. |
| (l) | Represents 5,376 shares held directly and 27,500 shares issuable upon exercise of options granted under a management shareholder agreement. |
| (m) | Represents 5,000 shares issuable upon exercise of options granted under an employment agreement. |
| (n) | Represents 5,000 shares issuable upon exercise of options granted under an employment agreement. |
Beneficial Ownership of Weekly Reader Common Stock |
The following table lists, as of the date of this current report common stock, which consists of Weekly Reader’s Class A and Class B non-voting common stock and Weekly Reader voting common stock, by:
| • | each person known by Weekly Reader to be the beneficial owner of more than 5% of the outstanding Weekly Reader common stock; |
| • | each of the directors and the executive officers listed under “Executive Compensation;” and |
| • | all directors and the executive officers listed under “Executive Compensation” as a group. |
As of the date of this annual report, no shares of Weekly Reader’s class A and class B non-voting common stock are outstanding.
As of the date of this annual report, the total number of outstanding shares of Weekly Reader voting common stock was 2,830,000. Except as otherwise noted, the persons named in the table have sole voting and investment power with respect to all shares shown as beneficially owned by them. The information concerning beneficial ownership is based on statements furnished to us by the beneficial owners and assumes that 2,830,000 shares of voting common stock have been issued and are outstanding.
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WEEKLY READER VOTING COMMON STOCK
Common Stock |
Name and Address | Amount and Nature of Beneficial Ownership |
Percent of Class | |||||||
| WRC Media c/o Ripplewood Holdings L.L.C. 1 Rockefeller Plaza, 32nd Floor New York, NY 10020 |
2,685,670 | 82.6 | %* | |||||||
| PRIMEDIA, Inc. 745 Fifth Avenue New York, NY 10151 |
144,330 | 4.4 | %* | |||||||
| DLJ Merchant Banking Partners II, L.P. and affiliates c/o DLJ Merchant Banking Partners 11 Madison Avenue New York, NY 10010 |
310,109 | (a) | 9.5 | % | ||||||
| TCW/Crescent Mezzanine Funds and affiliates 11100 Santa Monica Blvd., Suite 2000 Los Angeles, CA 90025 |
56,383 | (b) | 1.7 | % | ||||||
| All directors and the executive officers listed under “Executive Compensation” as a group (12 persons) | 0 | 0 | ||||||||
| * | Percent of class calculated on a fully-diluted basis including warrants. |
| (a) | Represents ownership by DLJ Merchant Banking Partners II, L.P. of 159,828 warrants to purchase Weekly Reader common stock; ownership by DLJ Merchant Banking Partners II-A, L.P. of 6,365 warrants to purchase Weekly Reader common stock; ownership by DLJ Offshore Partners II, C.V. of 7,860 warrants to purchase
Weekly Reader common stock; ownership by DLJ Diversified Partners, L.P. of 9,344 warrants to purchase Weekly Reader common stock; ownership by DLJ Diversified Partners-A, L.P. of 3,470 warrants to purchase Weekly Reader common stock; ownership by DLJMB Funding II, Inc. of 32,605 warrants to purchase
Weekly Reader common stock; ownership by DLJ Millennium Partners, L.P. of 2,584 warrants to purchase Weekly Reader common stock; ownership by DLJ Millennium Partners-A, L.P. of 504 warrants to purchase Weekly Reader common stock; ownership by DLJ EAB Partners, L.P. of 718 warrants to purchase Weekly
Reader common stock; ownership by DLJ ESC II, L.P. of 34,182 warrants to purchase Weekly Reader common stock; ownership by DLJ First ESC, L.P. of 308 warrants to purchase Weekly Reader common stock; ownership by DLJ Investment Partners II, L.P. of 32,041 warrants to purchase Weekly Reader common stock;
ownership by DLJ Investment Partners, L.P. of 14,238 warrants to purchase Weekly Reader common stock; and ownership by DLJIP Investment Partners II Holdings, L.P. of 6,062 warrants to purchase Weekly Reader common stock. Because these funds are under common control, each fund may be deemed to, for Federal
securities law purposes, beneficially own the shares underlying the warrants held by all the other funds. |
| (b) | Represents ownership by TCW/Crescent Mezzanine Partners II, L.P. of 27,231 warrants to purchase Weekly Reader common stock; TCW/Crescent Mezzanine Trust II 6,600 warrants to purchase Weekly Reader common stock; TCW Leveraged Income Trust, L.P. 5,638 warrants to purchase Weekly Reader common stock;
TCW Leveraged Income Trust II, L.P. 5,638 warrants to purchase Weekly Reader common stock; Shared Opportunity Fund IIB, L.L.C. 1,879 warrants to purchase Weekly Reader common stock; and TCW Shared Opportunity Fund III, L.P. 9,397 warrants to purchase Weekly Reader common stock. Because these funds are
under common control, each fund may be deemed, to for Federal securities law purposes, beneficially own the shares underlying the warrants held by all the other funds. |
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ITEM 13. Certain Relationships and Related Transactions |
Management Agreements |
In 1999, CompassLearning and Weekly Reader entered into management agreements with Ripplewood Holdings L.L.C. The following summary of the material provisions of these management agreements is qualified in its entirety by reference to the management agreements as entered into or amended as of the date of this report.
Under the terms of the CompassLearning management agreement with Ripplewood Holdings L.L.C., and since the date of the acquisition of CompassLearning, Ripplewood Holdings L.L.C. has been providing to CompassLearning management consulting and financial advisory services, and CompassLearning has been paying to Ripplewood Holdings L.L.C. an annual management fee of $150,000, payable in quarterly installments, and has reimbursed Ripplewood Holdings L.L.C. for its reasonable out-of-pocket costs and expenses incurred in connection with the performance of its services. On November 17, 1999, CompassLearning and Ripplewood Holdings L.L.C. amended the terms of the CompassLearning management agreement with Ripplewood Holdings L.L.C. to relieve CompassLearning of its obligation to pay management fees to Ripplewood Holdings L.L.C. until 2001.
Under the terms of the Weekly Reader management agreement with Ripplewood Holdings L.L.C., Ripplewood Holdings L.L.C. provides to Weekly Reader management consulting and financial advisory services. As a result of the Weekly Reader management agreement and the amendment of the CompassLearning management agreement, CompassLearning and Weekly Reader agreed to reimburse Ripplewood Holdings L.L.C. for its reasonable out-of-pocket costs and expenses incurred in connection with the performance of its services and is obligated to pay to Ripplewood Holdings L.L.C. annual aggregate management fees for services to both CompassLearning and Weekly Reader totaling $950,000, payable quarterly. Ripplewood Holdings L.L.C. received payments under these agreements totaling $650,000, $950,000 and $950,000 in 2004, 2003 and 2002, respectively, for services provided in 2003, 2002 and 2001. As of December 31, 2004, Ripplewood Holdings, L.L.C. received payments of $475 for services provided in 2004. In 2003, management fees of $300,000 were waived by the Company’s principal shareholder. The Company has accrued and unpaid management fees for 2003 and 2004 of $650,000 and $475,000, respectively.
Under these management agreements, Weekly Reader and CompassLearning are obligated to indemnify, defend and hold harmless Ripplewood Holdings L.L.C., its affiliates and each of their respective directors, stockholders, advisory directors, officers, members, employees and agents from any damages related to the performance by Ripplewood Holdings L.L.C. of its obligations under these management agreements. Ripplewood Holdings L.L.C. may terminate these management agreements at any time on five days’ prior written notice to Weekly Reader or CompassLearning, as applicable.
Management Shareholder Agreements |
Simultaneously with the closing of the 1999 recapitalization and purchase of Weekly Reader Corporation by WRC Media Inc. and under the terms of their respective employment agreements with Weekly Reader and CompassLearning certain executives of WRC Media, Weekly Reader, and CompassLearning purchased shares of WRC Media common stock and entered into management shareholder agreements with WRC Media and EAC III with respect to the WRC Media common stock held by these executives. The following summary of the material provisions of these management shareholder agreements is qualified in its entirety by reference to the management shareholder agreements.
Voting Agreement. Each executive who is a party to a management shareholder agreement with WRC Media and EAC III with respect to WRC Media common stock has granted to EAC III an irrevocable proxy to vote the WRC Media common stock held by the executive as well as all WRC Media common stock thereafter acquired by the executive on all matters except for any matter that would both adversely affect and treat the executive differently from other holders of WRC common stock. This proxy terminates upon any transfer of these shares to a third party after or upon completion of an initial public offering of WRC Media
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common stock and the expiration of any “lock-up” period agreed upon by the executives and the underwriters in connection with the initial public offering.
Transfer restrictions. Each management shareholder agreement with WRC Media and EAC III with respect to WRC Media common stock restricts the right of an executive to transfer the WRC Media common stock the executive holds without the prior written consent of EAC III to any person other than a permitted transferee of the executive. With respect to each executive who is a party to a management shareholder agreement, permitted transferees include EAC III, another executive, the executive’s spouse or lineal descendants or any trust the beneficiaries of which include only the executive’s spouse or lineal descendants. Each executive may also transfer, without restriction, the WRC Media common stock that the executive holds after the completion of an initial public offering of WRC Media common stock.
1999 Options. Executives listed under “Ownership of Stock,”—in Item 12 among others, who are parties to a management shareholder agreement with WRC Media and EAC III with respect to WRC Media common stock were also granted options to purchase a specified number of shares of WRC Media common stock. With respect to each of these executives, to the extent that the executive remains employed with Weekly Reader or CompassLearning, as applicable, 33% of the options vested on December 31, 1999, a further 33% on December 31, 2000 and the remaining 34% on December 31, 2001.
Tag-along rights. The management shareholder agreements with WRC Media and EAC III with respect to WRC Media common stock provide that, if EAC III determines to sell in excess of 5% of its WRC Media common stock to a third party other than a permitted transferee and, after giving effect to the sale, EAC III will have transferred in excess of 35% of its WRC Media common stock to a third party other than a permitted transferee, the executives who are party to the management shareholder agreements have the right to sell a proportionate amount of their WRC Media common stock in the transaction at the same price per share and on the same terms and conditions as apply to the sale of WRC Media common stock by EAC III.
Drag-along rights. In the event that EAC III determines to sell all or any portion in excess of 35% of its WRC Media common stock to any third party, EAC III has the right to cause the executives who are party to the management shareholder agreements with WRC Media and EAC III to sell a proportionate amount of their WRC Media common stock in the transaction, all at the same price per share and on the same terms and conditions as apply to the sale of WRC Media common stock by EAC III.
Option upon termination. In the event that the employment of an executive who is party to a management shareholder agreement with WRC Media and EAC III with respect to WRC Media common stock is terminated for any reason, EAC III has the option to purchase all or any portion of the WRC Media common stock held by the executive at fair market value as determined under the terms of the management shareholder agreement. In addition, in the event that an executive’s employment is terminated other than for good cause, as defined in the executive’s employment agreement, or because of a notice of non-renewal given by the executive’s employer, in the event of financial hardship as determined by the Board of Directors of WRC Media or because of death, the executive or the executive’s estate has the right to require WRC Media to purchase any or all of the executive’s WRC Media common stock, subject to exceptions and customary limitations, including but not limited to:
| • | our financial ability to finance the purchase with cash; or |
| • | our ability to obtain third party financing on reasonable terms. |
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ITEM 14. Principal Accounting Fees and Services |
The following table presents aggregate fees for professional audit services rendered by Deloitte & Touche LLP, the member firms of Deloitte Touche Tohmatsu, and their respective affiliates (collectively, the “Deloitte Entities”) for the audit of the Company’s annual financial statements for the years ended December 31, 2003 and 2004, and fees billed for other services rendered by Deloitte & Touche LLP during these periods.
| 2003 | 2004 | ||||||
| (in thousands) | |||||||
Audit |
$ | 553 | $ | 1,452 | |||
Audit Related |
— | — | |||||
Tax |
— | — | |||||
Other |
33 | — | |||||
Total |
$ | 586 | $ | 1,452 | |||
Audit fees for 2003 and 2004 were for professional services rendered for the audits of the consolidated financial statements of the Company, reviews of quarterly financial statements, employee benefit plan audits and the audits of the financial statements of a subsidiary.
Other fees in 2003 related to employee benefit plan advisory services which had been approved by the Audit Committee prior to May 2003.
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PART IV
ITEM 15. Exhibits, Financial Statement Schedules |
Financial Statement Schedules: |
WRC Media Inc. and Subsidiaries |
(a) (1) Financial Statements |
The following consolidated financial statements are included in Part II, Item 8 “Consolidated Financial Statements”:
WRC MEDIA INC. AND SUBSIDIARIES (CO-ISSUER OF SENIOR SUBORDINATED NOTES): |
Report of Independent Registered Public Accounting Firm-Deloitte & Touche LLP
Consolidated Balance Sheets as of December 31, 2003 and 2004
Consolidated Statements of Operations for the Years Ended December 31, 2002, 2003 and 2004
Consolidated Statements of Stockholders’ Deficit for the Years Ended December 31, 2002, 2003 and 2004
Consolidated Statements of Cash Flows for the Years Ended December 31, 2002, 2003 and 2004
Notes to Consolidated Financial Statements
WEEKLY READER CORPORATION AND SUBSIDIARIES (CO-ISSUER OF SENIOR SUBORDINATED NOTES): |
Report of Independent Registered Public Accounting Firm-Deloitte & Touche LLP
Consolidated Balance Sheets as of December 31, 2003 and 2004
Consolidated Statements of Operations for the Years Ended December 31, 2002, 2003 and 2004
Consolidated Statements of Stockholders’ Deficit for the Years Ended December 31, 2002, 2003 and 2004
Consolidated Statements of Cash Flows for the Years Ended December 31, 2002, 2003 and 2004
Notes to Consolidated Financial Statements
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(a) (2) Financial Statement Schedules: |
Schedule II (a)—WRC Media Inc. Valuation and Qualifying Accounts for the Years Ended December 31, 2002, 2003 and 2004
Schedule II (b)—Weekly Reader Corporation Valuation and Qualifying Accounts for the Years Ended December 31, 2002, 2003 and 2004
Schedule II (a)—WRC Media Inc.
| Opening Balance January 1 |
Expense | Write-offs | Ending Balance December 31 |
||||||||||
ALLOWANCE FOR DOUBTFUL ACCOUNTS |
|||||||||||||
2004 |
$ | 1,750 | 9 | (331 | ) | $ | 1,428 | ||||||
2003 |
$ | 1,467 | 758 | (475 | ) | $ | 1,750 | ||||||
2002 |
$ | 1,942 | 866 | (1,341 | ) | $ | 1,467 | ||||||
ALLOWANCES FOR SALES RETURNS |
|||||||||||||
2004 |
$ | 769 | 4,991 | (4,377 | ) | $ | 1,383 | ||||||
2003 |
$ | 1,649 | 2,239 | (3,119 | ) | $ | 769 | ||||||
2002 |
$ | 2,165 | 2,909 | (3,425 | ) | $ | 1,649 | ||||||
VALUATION ALLOWANCE FOR DEFERRED TAX ASSETS |
|||||||||||||
2004 |
$ | 100,460 | 16,688 | — | $ | 117,148 | |||||||
2003 |
$ | 84,655 | 15,805 | — | $ | 100,460 | |||||||
2002 |
$ | 70,485 | 14,170 | — | $ | 84,655 | |||||||
Schedule II(b) - Weekly Reader Corporation |
| Opening Balance January 1 |
Expense | Write-offs | Ending Balance December 31 |
||||||||||
ALLOWANCE FOR DOUBTFUL ACCOUNTS |
|||||||||||||
2004 |
$ | 1,410 | 274 | (322 | ) | $ | 1,362 | ||||||
2003 |
$ | 1,389 | 488 | (467 | ) | $ | 1,410 | ||||||
2002 |
$ | 1,543 | 1,187 | (1,341 | ) | $ | 1,389 | ||||||
ALLOWANCES FOR SALES RETURNS |
|||||||||||||
2004 |
$ | 769 | 4,991 | (4,377 | ) | $ | 1,383 | ||||||
2003 |
$ | 1,649 | 2,239 | (3,119 | ) | $ | 769 | ||||||
2002 |
$ | 2,165 | 2,909 | (3,425 | ) | $ | 1,649 | ||||||
VALUATION ALLOWANCE FOR DEFERRED TAX ASSETS |
|||||||||||||
2004 |
$ | 59,389 | 7,824 | — | $ | 67,213 | |||||||
2003 |
$ | 57,503 | 1,886 | — | $ | 59,389 | |||||||
2002 |
$ | 42,668 | 14,835 | — | $ | 57,503 | |||||||
All other schedules have been omitted since the required information is not present or is not present in amounts sufficient to require submission of the schedule, or because the information required is included in the Consolidated Financial Statements or the Notes thereto.
134
(a) (3) Exhibits |
Unless indicated otherwise, Exhibits are incorporated by reference from the Company’s definitive registration statement filed on Form S-4 pursuant to Regulation 12B under the Securities Exchange Act of 1934, Registration No. 333-96119, filed with the SEC on February 3, 2000 and the WRC Media Inc. Annual Report on Form 10-K for the year ended December 31, 2002.
| Exhibit Number | Description of Document |
| 2.1 | Redemption, Stock Purchase and Recapitalization Agreement dated August 13, 1999 among WRC Media Inc. and Primedia Inc. |
| 3.1 | Articles of Incorporation of WRC Media Inc. |
| 3.2 | Bylaws of WRC Media Inc. |
| 3.3 | Articles of Incorporation of Weekly Reader Corporation |
| 3.4 | Bylaws of Weekly Reader Corporation |
| 3.5 | Articles of Incorporation of CompassLearning, Inc. |
| 3.6 | Bylaws of CompassLearning, Inc. |
| 3.7 | Articles of Incorporation of Lifetime Learning Systems, Inc. |
| 3.8 | Bylaws of Lifetime Learning Systems, Inc. |
| 3.9 | Articles of Incorporation of American Guidance Service, Inc. |
| 3.10 | Bylaws of American Guidance Service, Inc. |
| 3.11 | Articles of Incorporation of AGS International Sales, Inc. |
| 3.12 | Bylaws of AGS International Sales, Inc. |
| 3.13 | Articles of Incorporation of World Almanac Education Group, Inc. |
| 3.14 | Bylaws of World Almanac Education Group, Inc. |
| 3.15 | Articles of Incorporation of Funk & Wagnalls Yearbook Corp. |
| 3.16 | Bylaws of Funk & Wagnalls Yearbook Corp. |
| 3.17 | Articles of Incorporation of Gareth Stevens, Inc. |
| 3.18 | Bylaws of Gareth Stevens, Inc. |
| 3.18.1 | Amendment to the Bylaws of Gareth Stevens, Inc. |
| 4.1 | Indenture dated November 17, among WRC Media Inc., Weekly Reader Corporation, CompassLearning, Inc. and Bankers Trust Company |
| 4.2 | Registration Rights Agreement dated November 17, 1999 among WRC Media Inc., Weekly Reader Corporation, CompassLearning, Inc., Primedia Reference Inc., Funk & Wagnalls Yearbook Corp., Lifetime Learning Systems, Inc., Gareth Stevens, Inc.,
American Guidance Service, Inc. and AGS International Sales, Inc. |
| 4.3 | Amended Certificate of Designations, Preferences and Rights of 15% Senior Preferred Stock due 2011 and 15% Senior Preferred Stock due 2001 of WRC Media Inc. |
135
| Exhibit Number | Description of Document |
| 4.4 | WRC Media Inc. Preferred Stockholders Agreement dated November 17, 1999 between WRC Media Inc., Weekly Reader Corporation and CompassLearning, Inc. and the preferred shareholders listed on the signature pages thereto |
| 4.5 | Form of Note |
| 4.6 | Certificate of Preferred Stock |
| 4.7 | Junior Preferred Stock Agreement |
| 4.8 | Exhibit A to Preferred Stock Agreement |
| 10.1 | Note Agreement, dated as of July 13, 1999, among CompassLearning, Inc. (as successor by merger to EAC I Inc.), The Northwestern Mutual Life Insurance Company and SGC Partners II L.L.C. |
| 10.2 | Stock Purchase Agreement, dated July 13, 1999, among Software Systems Corp., Sylvan Learning Systems, Inc., Pyramid Ventures, Inc., GE Capital Equity Investments, Inc. and CompassLearning, Inc. (as successor by merger to EAC I Inc.) |
| 10.3 | Credit Agreement dated November 17, 1999 among Weekly Reader Corporation, CompassLearning, Inc., WRC Media Inc., DLJ Capital Funding, Inc., Bank of America, N.A. and General Electric Capital Corporation |
| 10.4 | Security and Pledge Agreement dated November 17, 1999 among Weekly Reader Corporation, CompassLearning, Inc., WRC Media Inc., Primedia Reference Inc., American Guidance Service Inc., Lifetime Learning Systems, Inc., AGS International
Sales, Inc., Funk & Wagnalls Yearbook Corp. and Gareth Stevens, Inc. |
| 10.5 | Subsidiary Guaranty dated November 17, 1999 among Primedia Reference Inc., American Guidance Service Inc., Lifetime Learning Systems, Inc., AGS International Sales, Inc., Funk & Wagnalls Yearbook Corp. and Gareth Stevens, Inc. |
| 10.6 | Stockholders Agreement dated November 17, 1999 among Weekly Reader Corporation, CompassLearning, Inc., WRC Media Inc., EAC III L.L.C., Donaldson, Lufkin & Jenrette and Banc of America Securities |
| 10.7 | Shareholders Agreement dated as of November 17, 1999 among WRC Media, Weekly Reader Corporation and PRIMEDIA, Inc. |
| 10.8 | Employment Agreement dated November 17, 1999 among WRC Media Inc., EAC III L.L.C., CompassLearning, Inc. and Martin E. Kenney, Jr. |
| 10.9 | Transitional Services Agreement dated as of November 17, 1999, among Primedia Inc., WRC Media Inc. and Weekly Reader Corporation |
| 10.10 | Shareholder Agreement dated as of the 17th day of November, 1999 among EAC III L.L.C., Therese K. Crane and WRC Media Inc. |
| 10.11 | Shareholder Agreement dated as of the 17th day of November, 1999 among EAC III L.L.C., Peter Bergen, Larry Rutkowski, Al De Seta, Robert Jackson, Kenneth Slivken and WRC Media Inc. |
| 10.11.1 | Shareholder Agreement dated as of January 1, 2000 among EAC III L.L.C., Lester Rackoff, Sandy Maccarone, Ted Kozlowski, Eric Ecker, Terry Bromberg, Gerald Adams, Linda Hein, Janice Bailey, David Press, Cindy Buckosh, Robert Famighetti, Ken
Park and WRC Media Inc. |
| 10.12 | Shareholder Agreement dated as of the 17th day of November, 1999 among EAC III L.L.C., Martin Kenney and WRC Media Inc. |
| 10.13 | Preferred Stock and Warrants Subscription Agreement dated November 17 between WRC Media Inc., Weekly Reader Corporation, CompassLearning, Inc. and the other signatories thereto |
136
| Exhibit Number | Description of Document |
|
| 10.14 | Management Agreement dated as of November 17, 1999 among Ripplewood Holdings L.L.C. and CompassLearning, Inc. |
|
| 10.15 | Management Agreement dated as of November 17, 1999 among Ripplewood Holdings L.L.C. and Weekly Reader Corporation |
|
| 10.16 | ChildU Merger Agreement |
|
| 10.17 | Stockholder’s Agreement With New WRC Media (ChildU) shareholders |
|
| 10.18 | ChildU Escrow Agreement |
|
| 10.19 | Amended and Restated Credit Agreement |
|
| 10.20 | Lindy Asset Purchase Agreement |
|
| 10.21 | ThinkBox Agreement |
|
| 10.22 | First-Lien Credit Agreement (filed as Exhibit 99.1 with the Form 10-Q report filed on May 15, 2004)15, 2004 |
|
| 10.23 | Second-Lien Credit Agreement (filed as Exhibit 99.2 with the Form10-Q report filed on May 15, 2004)15, 2004 |
|
| 10.24 | Employment Agreement dated July 17, 2000 among WRC Media Inc. and Richard Nota |
|
| 10.25 | Restated and Revised Employment Agreement dated January 1, 2002 among WRC Media Inc. and Ralph D. Caulo incorporated by reference from 8-K dated February 9, 2005 |
|
| 10.26* | Employment Agreement dated July 17, 2003 among American Guidance Service and Kevin Brueggeman |
|
| 10.27* | Employment Agreement dated October 15, 2003 among WRC Media Inc. and Emily B. Swenson |
|
| 10.28* | Employment Agreement dated January 1, 2004 among CompassLearning, Inc. and Rajeev Puri |
|
| 12 | Cash Interest Expense Calculation |
|
| 12.1 | Statement Regarding Ratios of Earnings to Fixed Charges Computations |
|
| 21.1 | List of Subsidiaries of the Registrants |
|
| 31.1* | Certification of interim
Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
Act
of 2002 – WRC Media Inc. |
|
| 31.2* | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 – WRC Media Inc. |
|
| 31.3* | Certification of interim
Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002 – Weekly
Reader Corporation |
|
| 31.4* | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 – Weekly Reader Corporation |
|
| 32.1* | Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 – WRC Media Inc. |
|
| 32.2* | Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 – Weekly Reader Corporation |
|
| * | Filed herewith. |
137
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: March 31, 2005
| WRC MEDIA INC. |
|||||||
| By: |
/s/ RALPH D. CAULO
Name: RALPH D. CAULO |
||||||
| Title: interim Chief Executive Officer |
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1934, THIS REPORT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN THE CAPACITIES INDICATED ON THIS 31st DAY OF MARCH 2005.
Signature |
Title | |||
| /s/ Peter E. Berger Peter E. Berger |
Director | |||
| /s/ David
Burgstahler David Burgstahler |
Director | |||
| /s/ Ralph D. Caulo Ralph D. Caulo |
interim Chief Executive Officer | |||
| /s/ Timothy
C. Collins Timothy C. Collins |
Director | |||
| /s/ D.
Ronald Daniel D. Ronald Daniel |
Chairman | |||
| /s/ Charles
L. Laurey Charles L. Laurey |
Director/Secretary | |||
| /s/ David
M. Malcolm David M. Malcolm |
Director | |||
| /s/ Richard
Nota Richard Nota |
Executive Vice President, Operations | |||
| /s/ Robert
S. Yingling Robert S. Yingling |
Chief Financial Officer |
138
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: March 31, 2005
|
WEEKLY READER CORPORATION |
|||||||
| By: |
/s/
RALPH D.
CAULO Name: Ralph D. Caulo |
||||||
| Title: interim Chief Executive Officer |
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1934, THIS REPORT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN THE CAPACITIES INDICATED ON THIS 31ST DAY OF MARCH 2005.
Signature
|
Title | |||
| /s/ Peter E. Berger Peter E. Berger |
Director | |||
| /s/ David
Burgstahler David Burgstahler |
Director | |||
| /s/ D. Ronald Daniel D. Ronald Daniel |
Chairman | |||
| /s/ Ralph D. Caulo Ralph D. Caulo |
interim chief Executive Officer | |||
| /s/ Timothy C. Collins Timothy C. Collins |
Director | |||
| /s/ Charles L. Laurey Charles L. Laurey |
Director/Secretary | |||
| /s/ David M. Malcolm David M. Malcolm |
Director | |||
| /s/ Richard Nota Richard Nota |
Executive Vice President, Operations | |||
| /s/ Robert S. Yingling Robert S. Yingling |
Chief Financial Officer |
139