Q4 2016 Real-Time Call Brief

Highlights

We delivered GBP25 million more than the GBP350 million in annualized cost savings that we targeted of one-off cost for the some GBP10 million less.

We're encouraging a more digital a more services-based business, the benefits of this work in our U.S. assessment business for example, which last year contributed more profit on sales that were actually $140 million lower.

Our market conditions across most Pearson were closed to what we expected the big swing factor here in the year was GBP180 million decline in our North American higher education profits.

We put in place additional discretionary cost savings, which were around GBP55 million.

Secondly, our flexible incentive compensation tool has reduced in line with performance and that's helped us by GBP55 million.

As we told you in October, foreign exchange movements worth about GBP45 million pounds on operating profit versus original guidance and that's created around GBP75 million versus prior year.

Our Higher Education courseware business declined an unprecedented 18% during the year.

On largest world at around two-thirds of the total or 12%, we saw a big correction in the sales channel, driven by our retail partners.

On a revenue weighted basis, this means 1.4% decline in enrollment overall is worth more like 2.3% of Pearson's Higher Education revenues.

We estimate the total size of the courseware market at around $7 billion.

It's split roughly 50-50 between new sales and digital subscriptions and secondary sales.

As a result, while our share of usage in the total market is around 35%, which is in line with our share adoptions, our share of actual value is much lower at just over 20%.

The big trend we've seen exacerbated over the past couple years is rental improving firstly into the used book market but then also pending on the new market both for us and all the publisher. This is driving a growing gap between our share of usage and share of value and in 2016 this negatively impacted our sales by between 3% and 4%.

We grew digital revenue by 5% in 2016.

We'll maximize the value of our text business all of that secondary market is in print, which is declining still accounts for 50% of our Higher Edge courseware sales.

We are cutting prices on 2,000 digital e-book products rise across our portfolio by between 20% and 50%.

E-book rentals are small parts of our current business today, representing only around 3% of our revenues.

Moving on to our guidance for 2017, we have guided to EPS of GBP48.5 to GBP55.5, and operating profit of GBP570 million to GBP630 million.

On VUE, we've have greater visibility in rental and we've 700 sales consultants tracking every adoption and update that tell us that revenue loss to VUE in 2016 was less than 1%.

At the lower end of our guidance range, we assume the inventory levels continue to fall and we do not get the benefit of the returns improvement, which means our Higher ED business will decline in the mid-single-digits.

In both cases, we are effectively assuming an underlying decline of 6% to 7% in demand in U.S. Higher Education courseware in 2017 driven by declining enrollments and the rising secondary effect.

A handful of sub-scale business that we execute during 2016 reduced profit by GBP10 million.

Market conditions will be between 0 and negative GBP60 million, based on the range of outcomes in our Higher Education business.

Other operational factors reduced profit by GBP60 million and include factors such as continued dual IT running costs and investment in our businesses.

Inflation will add another GBP55 million.

Reinstatement of our flexible incentive compensation pull to its budgeted amount also add GBP55 million of cost.

The restructuring that we undertook this year has driven slightly more benefit than we expected and is worth a further GBP135 million in 2017.

Taken together, this leads to a guidance range of GBP570 million to GBP630 million based on exchange rates at the end of 2016.

Last year, profits from our business were GBP180 million lower than in 2015 in an industry that we now expect to decline by further 6% to 7% in underlying terms for the next couple of years.