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Edited Transcript of PSON.L earnings conference call or presentation 24-Feb-17 9:00am GMT

Thomson Reuters StreetEvents

Full Year 2016 Pearson PLC Earnings Presentation

London Feb 24, 2017 (Thomson StreetEvents) -- Edited Transcript of Pearson PLC earnings conference call or presentation Friday, February 24, 2017 at 9:00:00am GMT

TEXT version of Transcript

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Corporate Participants

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* John Fallon

Pearson plc - CEO

* Coram Williams

Pearson plc - CFO

* Kevin Capitani

Pearson plc - President, North America

* Gio Giovannelli

Pearson plc - Managing Director, Brazil

* Tim Bozik

Pearson plc - President, Global Product

* Rod Bristow

Pearson plc - President, Core

* Sidney Taurel

Pearson plc - Chairman

* Albert Hitchcock

Pearson plc - CTO

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Conference Call Participants

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* Nick Dempsey

Barclays - Analyst

* Steve Liechti

Investec Bank - Analyst

* Ruchi Malaiya

BofA Merrill Lynch - Analyst

* Ian Whittaker

Liberum - Analyst

* Chris Collett

Deutsche Bank - Analyst

* Matthew Walker

Credit Suisse - Analyst

* Katherine Tait

Goldman Sachs - Analyst

* Giasone Salati

Macquarie - Analyst

* Patrick Wellington

Morgan Stanley - Analyst

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Presentation

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John Fallon, Pearson plc - CEO [1]

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^ Good morning, everybody. Thanks for joining us this morning. I'm John Fallon. I'm here with Coram Williams, our CFO. We also have with us our Chairman, Sidney Taurel; and our Executive team, who will help out with the Q&A. And I will introduce my colleagues, when we get to that point in the meeting.

I'm going to start by running through the headlines from today's financial results, and say a little about the structural trends we're seeing across our markets and how they shape our priorities for the year ahead; and then, Coram's going to talk you through the detail of our 2016 results, and our guidance for 2017.

I don't want to talk a lot about, or cover a lot of, the same ground that we covered in January. So let me just really make three brief points, by way of introduction.

First, last year was uniquely challenging, as you all know. We made our 2016 earnings guidance, and we delivered a good cash performance. But the fact remains that the earnings power of our North American business is now around GBP180 million per year less in operating profits than we thought it was a year ago. And that lower profitability drove a painful decision to withdraw our 2018 guidance in January; and it leads directly to the GBP2.5 billion goodwill impairment charge that we announce today.

Two, we have taken over GBP650 million of costs out of the business over the last four years. We took over GBP400 million of cost out of the business last year, alone.

We see further scope to simplify the Company and make it more efficient. As we did last year, we will continue to realign the cost base to reflect the changing nature of our markets. And you should expect, as last year, that we will get on and do that urgently and efficiently and that we'll update you on our plans, as we do so, through the year.

Three, those savings that we've been making are funding the digital transformation of Pearson in three vital areas: personalized courseware, next-generation assessment, and virtual learning, and the services associated with it.

These growing businesses are not going to counter fully the pain and the disruption of the cyclical and structural challenges that we face in the short term, but they will win out over time, and they will ensure that Pearson emerges as a digital winner in education.

Meanwhile, and despite the setbacks of 2016, you'll see that Pearson remains a profitable, cash-generative business, with a healthy balance sheet and strong competitive positions across its markets.

Our work is driven by these big trends in education that we've told you about before. And as we focus on what we see is our biggest opportunities, you'll see us continue to tighten the portfolio, as we've announced with a couple of things we're doing today; and we will adapt our product and ways of engaging our customers to meet them.

In education, the path to sustainable, profitable growth lies in scalable, increasingly digital, products and services that help our customers and our partners improve access and outcomes in education. And with those trends, there are big transitional costs, as we're seeing, and long-term risks that we need to manage and mitigate.

For example, we're current managing our way through a prolonged period of uncertainty and turbulence as we make the transition from print text books to digital courseware. To manage that effectively, we are accelerating digital, we're making smart tactical plays in rental, whilst also managing that print decline proactively.

We're also dealing with some potentially very disruptive threats. Currently, the negative impact that we've seen from OER is small, but it's growing. We're dealing with it by addressing affordability and continually adding valuable new functionality and features that drive productivity, outcomes, and value for students and teachers.

But structural change in education is also an opportunity. It's an opportunity for us to increase our share of value, and it's an opportunity to expand our addressable markets by building deeper relationships with our institutional customers and more direct engagement with students; for example, by partnering with universities to offer online degrees.

At this point in the cycle, the pain of the transition is hurting us more than the benefits we're seeing from the new opportunities. But we can change that. We change it by staying true to our strategy, by combining the things that we believe we do better than anyone else in the world.

We have world-class capabilities in education-related content and assessment and, as the global leader in our industry, we're combining them to serve these new trends and the changing needs of teachers and students.

So, that leads directly to our 2017 priorities.

Coram, as I say, is going to talk you through the details of our results, and he'll also talk about how we are continuing to simplify Pearson to control our costs and increase our efficiency; and then, I'll be back to talk briefly about how we are focusing investment and attention on our biggest opportunities.

Coram, over to you.

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Coram Williams, Pearson plc - CFO [2]

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Thank you, John. I'm going to start by running through our sales performance.

In North America, revenues declined 10% in underlying terms. You'll find a detailed breakdown of that performance, with our usual pie charts, in the appendix, but I'll touch now on the key drivers.

In higher education courseware, as you know, we had a challenging year with revenues down 18% in the US. That was driven by lower enrolment; greater pressure from print rental; and a significant inventory correction in the channel.

In school courseware, revenues declined 10%, with a smaller new adoption market and our lower participation rate, partially offset by good growth and share gain in open territories.

In Assessment, revenues in school declined 22%, due to the contract losses we told you about in 2015, although, as the year progressed we saw improved momentum here, winning a significant role in Massachusetts; a temporary contract in Tennessee; and renewals and contract wins in other states, too.

Elsewhere in assessment, professional certification revenues grew 7% on continued growth in volumes; and clinical assessment sales declined 1%, after a very strong 2015.

We had another good year in services in North America with our virtual skills business, Connections Education, growing revenues 8%; and Pearson Online Services, our online program management, or OPM, business, seeing 19% growth in course enrolments; partially offset by a decline in LearningStudio, a learning-management system which is currently being retired.

In Core, revenues dropped 4% in underlying terms, primarily due to expected declines in vocational course registrations in UK schools.

The UK qualifications business continues to be impacted by government policy, where changes to accountability measures have led to these lower BTEC registrations. BTEC registrations in UK schools have begun to stabilize and we do expect this business to grow again, once we're through 2017.

These declines were partially offset by strong double-digit growth in APM, in both the UK and Australia, where we've benefited from some significant contract wins; and in English assessments, where we grew strongly in Australia.

In Growth, revenues were up 8% at headline, but were down 1% in underlying terms.

In South Africa, revenues grew strongly, with a recovery in the school textbook market partially offset by enrolment declines at CTI.

In China, growth in adult English-language learning and English courseware was partly offset by declines in English test preparation at GEDU.

In Brazil, revenues fell, due to enrolment declines in our English-language learning business, related to macroeconomic pressures.

As usual, we show our deferred revenue in US dollars on this chart. In headline terms, deferred revenue declined, reflecting the significant FX moves that we've seen during the year.

But underlying growth was broadly flat, despite the overall weakness in our revenues and deferred revenue as a percentage of sales was up to 18%. While this is a short-term drag on revenue growth, it's also a sign of the underlying growth in our digital business.

As we said in January, it's crucial to understand what happened in higher education, in order to understand the year. We went through this in detail then, but, to recap, our US higher education courseware business declined an unprecedented 18% during the year, driven by three factors.

Firstly, enrolments were again weaker than our expectations, driven by pressures in the for-profit and community college channels.

Secondly, we saw a bigger-than-anticipated impact from rental.

And thirdly, and largest of all, at around two-thirds of the total, or 12%, we saw a significant inventory correction in the sales channel.

Underlying market share trends remained stable, and our market share in the 12 months to the end of January 2017 was 40.4% on a net basis.

Let's turn now to adjusted operating profit, which declined by 21% in underlying terms.

In North America, profits fell 28% in underlying terms, driven, primarily, by lower revenues in our high margin, higher education courseware business, partially offset by restructuring benefits.

In Core, profits declined 51% in underlying terms, due to lower revenues in our UK qualifications business and increased investment in new products and services, partially offset by restructuring benefits.

In Growth, profits improved significantly, as our restructuring program delivered benefits, and we saw some recovery in South Africa.

Penguin Random House had a good 2016, helped by strong publishing, and increased savings from the integration program. A small portion of these integration benefits was one-off in nature and will not repeat in 2017.

This slide updates the profit bridge we gave you in January for our final numbers for 2016, and it hasn't changed much. As I said then, market conditions across most of Pearson were close to what we expected.

But we did have to cover an unexpected GBP180 million decline in our North American higher education profits. We offset some of that shortfall in three ways; firstly, additional discretionary cost savings, which were around GBP55 million; secondly, reducing our flexible incentive compensation pool, in line with performance, that helped us by GBP55 million; and thirdly, we achieved slightly higher benefits in-year from our restructuring work. As a result, we achieved our guidance for 2016.

Careful planning over a number of months allowed us to reduce our cost base, exiting 2016, by GBP425 million, at a cost of GBP338 million.

Adjusting for the impact of currency, we delivered around GBP25 million more than planned in benefits, at a cost that was around GBP10 million lower than planned.

Our objective was to simplify our business to create a better platform for digital growth; to focus the business further; and to leverage our scale efficiencies and the synergies across our portfolio.

Turning to the income statement, our interest cost was in line with guidance.

Our tax rate of 16.5% was lower than expected, due to profit mix, but higher than last year's 15.5%. The increase over last year was due to a smaller benefit from adjustments, arising from the agreement of historical tax positions.

EPS was 58.8p; 16% down on 2015, but in line with guidance.

Our statutory loss for the year was GBP2.3 billion, and that reflected the impact of the impairment we have taken in North America.

We review the goodwill that we carry on the balance sheet every year. Following this year-end's review, we're taking a significant, non-cash write-down of GBP2.548 billion. This is completely in line with the fact that our profits exiting 2016 are around GBP180 million lower than we thought they'd be when we last reviewed our goodwill balance, at the end of 2015.

The goodwill relates primarily to the 1998 acquisition of Simon & Schuster education, and the 2001 acquisition of NCS. And the transition to IFRS meant that this goodwill was frozen on our balance sheet in 2003 and not amortized from then on.

Last year, we told you that our cash conversion would improve in 2016, and that's exactly what happened.

Our operating cash flow was much stronger than last year at GBP663 million, and our cash conversion was 104%. Some of that comes from the cash benefit of not making incentive payments in 2016, but we also benefited from tight management of working capital.

Excluding the benefit of lower incentive payments, cash conversion was still at the top end of our normal 90% to 95% range.

Our CapEx was broadly in line with 2015, as we invested in our system simplification program. And we continue to invest in new product, pre-pub, as we drive the digital transformation of our business.

Our operating free cash flow was GBP310 million (sic - see slide 19, "GBP294 million") higher than 2015, reflecting higher cash generation and lower interest and taxes paid.

Cash taxes benefited from the deductions we got for some of the restructuring cost in our 2016 simplification program.

Our balance sheet has been significantly strengthened by the disposals we made in 2015 and strong cash flow in 2016, partially offset by the strengthening of the US dollar relative to sterling.

Our net debt increased to just under GBP1.1 billion, reflecting that FX move, together with restructuring costs; and Pearson's net debt-to-EBITDA ratio remained solid, at 1.4 times.

As you can see in a table in the back of your packs, our lease-adjusted net debt, as used by the rating agencies, was GBP2.3 billion.

Given the strength of our balance sheet, and, in particular, our cash position at year end, we have today announced a buyback of our $550 million 2018 bond.

We'll see the typical pattern to our balance sheet phasing during 2017. Dividend payments and working capital build-up will represent an outflow of around GBP600 million in the first half. Then, in H2 we'll see typical operating cash inflow, and we'd expect cash conversion for the year to be around 90%.

As we've discussed before, we'll also make a contribution to the pension fund for Penguin-related liabilities, and you should model around GBP225 million at current interest rates.

There are, of course, a number of uncertainties in determining net debt for 2017 beyond this, most notably FX; any inflows from PRH, or other disposals; and the size of the interim dividend, so this is only a guide.

Our overall guidance for 2017 is as we laid out in January: we're guiding to EPS of 48.5p to 55.5p, and operating profit of GBP570 million to GBP630 million, based on exchange rates at the end of 2016.

Here's the bridge from our 2016 result to that guidance for 2017. It's very similar to the one we showed you last month, so I'm not going to go through all the items again, but I will pull out two key points. Firstly, the restructuring that we undertook this year has driven more benefit than we expected, and is worth a further incremental GBP135 million in 2017.

Secondly, market conditions will be between zero and negative GBP60 million, based on the range of outcomes in our US higher education business that we described in January.

To remind you, this is how we framed that US higher education guidance back in January. In short, we expect most factors to behave much in the same way as they did in 2016, with enrolments and rental negative and institutional selling and digital mild positives.

Yet, experience in 2016 has taught us to be cautious, so we've doubled the year-on-year incremental from OER, and we've planned for two distinct outcomes for the reversal of the inventory correction in US higher education.

At the upper end of our guidance range, we assume that retail inventory is now closer to an appropriate level; that gross sales track reduced demand; and returns normalized to levels seen consistently before autumn 2015, and that results in broadly flat net sales.

At the lower end of our guidance range, we assume that inventory levels continue to fall; we don't get the benefit of the returns improvement, and that means our higher ed business will decline in the mid single-digits.

In both cases, we're assuming an underlying decline of around 6% to 7% in demand in US higher education courseware. This is likely to create an unusual phasing effect during the year. The improvements in the returns will drive a positive effect in H1, while the underlying pressures in the market will impact gross sales, primarily in H2, so we should expect a strong first half and a weaker second half.

For the other parts of the business, we expect many of the trends we saw in 2016 to continue into 2017. Our UK qualifications business is stabilizing, as we predicted. For 2017, we expect modest declines as revenue recognition continues to lag the greater stability that we're now seeing in vocational course registrations.

Our US student assessment business is in much better shape than it was. But the top line will continue to come under pressure, as we lose the benefit from the one-off emergency contracts we won to 2016, and a handful of states transition away from [Park].

The US K12 courseware business will continue to perform well in open territories, and where it competes in adoptions, but we will see ongoing pressures on our participation rate as the Californian elementary reading adoption, in which we don't compete, is spread out over several years. We will, however, continue to see good growth from Connections, OPM, professional certification, and the growth markets.

As John said earlier, we also see scope to further simplify the Company and drive further efficiencies. Specifically, we will continue to build scale and capability within the shared service centers that we've established in technology, finance, and HR.

We'll drive further simplification in our technology estate, decommissioning over 300 more systems; and will pursue ongoing efficiency in procurement, supply chain, and property.

Clearly, the revenue challenges that we faced during 2016, and expect to continue over the next couple of years, lend urgency to that task. And we're committed to benchmarking further Pearson's cost base, and ensuring it matches the economic realities that we face.

We told you in January that it was the right time to exercise the option to issue an exit notice on our stake in Penguin Random House, and that was for the following reasons. Firstly, the integration of the two businesses is complete, and synergies have come through nicely.

Secondly, PRH has recently concluded a long negotiation on renewing digital e-book terms across the industry, and the impact is now clear.

Third, we're in the contractual window in which we're able to issue a notice of exit to Bertelsmann and will not have another one until 2019.

As we explained in January, this is a strategically driven decision, where the process can play out in a number of ways, and we expect it to take some months before the end result is clear.

We also continued to review our broader portfolio, including a process that may lead to a potential partnership for Wall Street English, and a possible sale of GEDU.

Given those announcements, I thought I'd finish by briefly reminding you how we think about capital allocation.

We've said we will use proceeds from our portfolio actions to maintain a strong balance sheet and solid investment-grade credit rating, organically invest in our business, and return excess capital to shareholders.

As we said in January, we've nudged up our organic investment to accelerate our growth in digital. But we think the GBP700 million to GBP750 million, or so, that we invest each year is at about the right level, especially as we align that spend to fewer, larger opportunities.

We're not planning on making any acquisitions in the near term, given our focus on simplifying the Company and improving operating performance.

We're committed to paying a 52p total dividend for 2016, but we will rebase the dividend in 2017, as announced in January.

Given the uncertainty of the outcome on PRH, as well as the broader uncertainty on our outlook, we don't plan to put a number on what that new dividend will be just yet. But we will clearly communicate our intentions, later in the year.

Back to you, John.

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John Fallon, Pearson plc - CEO [3]

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Thanks, Coram. For those of you who are joining us on the webcast, I should have said at the beginning that if you want to post questions online I'll make sure that we get to them in the Q&A.

Coram's talked about simplification, he's talked about cost efficiency. Let me talk about what we're doing to focus on our biggest and strongest businesses.

In January, we talked about the fact that all the work we've been doing over the last few years to modernize our product technology platforms means that we can now shift to more and faster innovations. So I just want to give you a little taste of what that means.

In January, we talked about higher ed courseware being a $7 billion market, split 50/50 between new and secondary; and we said that today we have about a 35% share of usage, but more like a 20% share of value. And our goal is to grow our share of usage, and translate more of that share into value, and that we do that in three ways.

First, we've made some tactical moves to maximize the value of our text. We've cut digital text rental prices by 20% to 50% to compete with rental, and we're on track to launch our print rental pilot with 50 titles this fall. Crucially, those titles will only be available in print via rental.

Second, we are increasingly selling either direct to consumer, or at the institutional level.

We already get just under 20% of our total higher ed courseware sales from direct student transactions through pearson.com, that's up about 70% in the last three years, and we're investing in our eCommerce platforms to maintain and sustain that growth.

At the institutional level, we've now signed 148 digital direct access deals, and we're aiming to double that over the next year.

Third, and most important, and most exciting by far, is what we're doing to accelerate our digital product pipeline. This timeline gives you a sense of the key features and launches that we have coming up, including a new user experience for MyLab mastering, enhanced analytics in mastering early alerts and adaptive practice in MyLab.

We'll launch many new REVEL titles, including key products, like Hubbard's Economics, to expand the addressable market in business. REVEL doubled last year to just under 300,000 registrations and it should be over 400,000 by the end of this year.

The IBM Watson Cognitive Tutor will pilot in REVEL in 2017, and launch commercially next year.

And heading into next year, we also have new key innovative product releases in accounting, engineering, and, most importantly, in developmental math; all delivered on the new global learning platform that we talked about in January.

So what do they have in common, all of these new features and functionality? It's all about personalizing learning. But it's also all about re-deploying across different products and different markets so we maximize synergies and scale.

All these products are designed as device-neutral, they all run in the cloud; and all, by their nature, promote and enable problem solving in higher order skills.

And it's this kind of rollout that is something that our platform-enabled strategy enables to do much more quickly than ever before, and at much greater scale. It's what is going to get our higher education courseware business to 75% digital by 2020. And we see that over time it brings similar benefits to all of the GBP2.5 billion of sales that we have in our courseware products across school and ELT, as well as higher education globally.

Let's turn next to Assessment. As you know, we had a tough year in Assessment. In 2015, we lost some big contracts, and we saw significantly lower revenue in 2016 as a consequence.

But by successfully restructuring the business, by re-engineering it around a flexible digital core, we actually grew profits last year, even though we saw such a big increase -- big decrease in top-line sales. How did we do that? We did it because we're now past a digital tipping point in US school assessment: more than half of the tests taken on screen.

Digital testing is more efficient for us. But it's -- much more effectively meets the needs of our customers at the state level. And it also meets the growing clamber from teachers, parents, and students for tests that are -- that provide faster, more actionable feedback; assessment that more readily is designed into the workflow of teaching.

We're capitalizing on our core assessment capabilities globally. We're on pedagogy around the psychometrics, around the digital testing platforms like, ePEN, or TestNav 8, that you see here, and that can benefit all of our GBP1.3 billion assessment business worldwide.

But just as in courseware, we also need to make sure that we maximize the value of our print business in Assessment. And we've done that with a restructured US paper-based testing infrastructure, automated scoring; very high quality in standards, that means that we can very quickly scale up and down.

That's important through the disruption of the transition. Because whilst the long-term future of testing is digital, we have to go as fast as our customers can go. And so that our ability to maximize this digital print mix is actually a real competitive strength for us.

It also makes us much more pro-active and effective in our partnering, as you saw with the recent contract win in Massachusetts, more of a Pearson inside-type approach, where we work with others to capitalize on our core digital strengths and expand our market opportunity.

We're also capitalizing on our platforms, our scale, our domain knowledge when it comes to our fast-growing services businesses as well.

For example, online program management now a GBP1 billion global market. Pearson is the largest player. We have 45 partnerships across three continents. We have 10 new programs launching, to come onstream this year. And we grew course enrolments in North America last year by 19%. And you may have seen earlier this week, we announced our second UK partner with Manchester Metropolitan University.

As we develop more of these partnerships, we're increasingly integrating Pearson own content and assessment into the courses; we're improving student engagement and learning outcomes; we're increasing value for our partner institutions. But it also, again, means that we embed Pearson more deeply into the learning process.

And it's this approach that's not just going to drive online universities, but our virtual schools, and our English language teaching, to real focus, and doing so in [replicable] scalable, digital capital-light ways.

So, to conclude, this is how we are measuring progress across Pearson. We'll define success by to what extent we increase our focus; by the extent to which we scale up our biggest products and biggest markets; that we deliver on our simplification agenda; that we beat our competition; and we expand the total addressable market.

The people of Pearson are absolutely vital to that. They believe in our mission, in our values. We've retained and promoted the talent that is absolutely vital to the future of this Company.

But the single most important measure of progress that we will be tracking is this: getting our businesses to the point where digital growth outweighs the pains of transition and disruption that we're still seeing today in our print business.

That's made it a tough few years for Pearson, but we are the global leader in education. We've got real scale; we've got an increased focus on innovation; we've kept investing in our digital transformation.

And over time, this is what Pearson will look like, a more focused Company; a simpler business; more scalable; more digital products; running on fewer, more unified platforms and systems, all of it improving learning outcomes, all of it positioning Pearson to grow again. We will get there, and we will get there just as quickly as we possibly can.

And so, with that, thanks, again, for coming along. And now, Coram and myself, and the whole of the Executive team, who I will introduce as they help us answer questions, will be happy to engage you in the Q&A.

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Questions and Answers

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Nick Dempsey, Barclays - Analyst [1]

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Nick Dempsey. I've got three questions, please. First one, just on PRH, in the event that the option is that you do sell it, would you have tax pay-aways there?

And another part of that question, in terms of use of proceeds, what exactly is investment? It's not bolt-ons, because you're not focused on M&A. Is it more CapEx? Or what kind of returns should we think about on that investment?

Second question, in US school courseware, both McGraw-Hill and HMH agree that the total market is going to go up in terms of the adoption opportunity in 2017. You weren't in California ELA in 2016, you're not in it in 2017, why does your addressable market not go up, given those sort of balance each other out?

And third question, in terms of your work on cost, can we expect you to announce a new restructuring plan, which you'll give us all the details of once you've thought about it and communicated it internally? Or are you just going to focus on cost, as you normally do, with a close eye?

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John Fallon, Pearson plc - CEO [2]

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Okay, thanks, Nick. Coram, why don't you take the first two questions, I think first question had two parts to it; and then, I'll pick up on the third one.

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Coram Williams, Pearson plc - CFO [3]

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Sure. In terms of tax on Penguin Random House, there is likely to be some tax to pay on that. I'm not going to put a number on it right now, but you should think of it that the UK -- there are effectively two ventures. The UK venture is likely to qualify for substantial shareholder exemption, the US venture would be liable for US corporate tax. So that's, I think, the way to think of that one.

In terms of the investment, I think I was clear in the script that it's organic investment. We're not planning on making any acquisitions. That organic investment will go into both product and capital and will really be about driving the digital strategy of business through organic investment. I think that's where we're planning on putting that.

On the US school side, the key, however, is the participation rate. The Californian elementary reading adoption is such a big part of the pool in 2016 and 2017 we don't compete in it. The pool has risen slightly, but it's nowhere near enough to offset our participation rate effect of us not competing in that. And open territories will continue to be a strong part of the performance.

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John Fallon, Pearson plc - CEO [4]

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Okay? And then, on the third point, I think we were pretty clear. Clearly, we took over GBP400 million of costs out of the business last year. We did it without undermining the competitive performance of the Company. That was because it was done urgently, but carefully, lots of thought; lots of planning; lots of engagement with the senior leadership of the Company; communicated carefully to employees, as we go.

We do see further opportunities to improve the underlying efficiency of the Company. That will involve us taking further costs out of the business. If we have to take further restructuring costs, we will have no hesitation in doing so. And we'll announce what we're planning to do when we're ready and able to announce it, because doing it carefully but urgently is the best way of doing it in the long-term interests of the Company.

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Steve Liechti, Investec Bank - Analyst [5]

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Steve Liechti, Investec. Three quick ones, hopefully. PRH, what was the extent of the one-off benefit? Can you quantify that, please?

Two, can you give us any indication in terms of, I don't know if it's gross or net, sales trends in HE year to date, to give us some feel of whether you're getting any sort of benefit from the inventory change you had before?

And then third, can you just give us a little bit more detail in terms of you mentioned potential new partnerships, you reference Wall Street English and one other area, can you give us a bit more detail on what you might do there, please?

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John Fallon, Pearson plc - CEO [6]

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Okay, do you want to take the one-off costs, Coram, and perhaps give the headlines in terms of the start to the year on higher ed courseware? And then, perhaps, Kevin, you can give a bit of color around competitive performance, and the like, and how we're feeling about the year. And then, I'll pick up on the Wall Street English partnerships; and Gio Giovinelli will pick that up.

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Coram Williams, Pearson plc - CFO [7]

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On PRH, I was specifically highlighting that it's a very small part of the integration benefits that were one-off in nature. As you do these things, certain things come through on the ledgers as you combine them and you don't get an ongoing benefit from them.

I think I previously mentioned, in January, that I thought that the performance of that business, on an underlying basis, was about GBP120 million. So the delta between that and the GBP129 million that you see in the numbers is roughly the one-off integration benefit.

In terms of trading in North American higher ed courseware, we've said that we are trading in line with expectations. Obviously, expectations involve a partial reversal of the inventory correction. And really, that's as far as I want to go, partly because January is less than 10% of our higher ed courseware business. It's very early in the year. But we have started in line with where we expected to be.

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John Fallon, Pearson plc - CEO [8]

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Oka. Kevin, do you just want to give a feel -- from a bit of color on how you feel the year is shaping up?

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Kevin Capitani, Pearson plc - President, North America [9]

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Good morning. Kevin Capitani, I'm new President of North American business. The year is shaping up fantastic.

We have instituted a kind of go-to-market model that's not just reliant upon two professor and adoption. We've actually extended, started this a little bit about a year ago, that John mentioned earlier, our DDA, our institutional deals: 148 in number.

So we're actually expanding what we're doing in terms of how we're going to attack the market at an institution or an administrator level, in addition to adoption level selling, which will remain incredibly important. But also, more direct to the consumer or the customer and the student. And if we set the business unit in higher ed particularly in that manner, we'll be able to attack it a lot better, more comprehensive, and drive, let's say, additional revenue at different points in the year, rather than just the adoption selling at two key intervals at each semester.

If you think about how a digital and a software company go to market, this is a lot more in line with that, rather than just say straight line adoption, where we get into the murkiness of the channel, which is some of the uncertainty we dealt with in the last couple of years.

In that, you'll see a lot of different motions, if I can use that word, for the sales force as we move forward in North America, particularly around higher ed.

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John Fallon, Pearson plc - CEO [10]

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Thanks, Kevin. And then, Gio, do you want to pick up on the opportunity in China?

But just to give a bit of context, we've said that further simplification of the Company means not focusing on large-scale direct delivery, but more trying to partner in that. Gio, do you just want to give some sense of what a partner might look like? Gio runs our growth markets.

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Gio Giovannelli, Pearson plc - Managing Director, Brazil [11]

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Yes, Wall Street English had a good year, as you've read in the press release. Enrolments grew 8%, and we have rolled out a new product, called the new student experience, in the 68 centers that we have in China.

We have come to the conclusion that our job is consistent to a strategy to really be the best in the world at content, plus assessment, powered by technology, which is exactly what the new student experience product does. However, we don't have a specific skill in running in operating centers. That's why, as announced today, we're looking for a partner that can provide that knowledge and expertise to us, so that we can together leverage the asset. Thank you.

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Steve Liechti, Investec Bank - Analyst [12]

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Okay, thanks, Gio.

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Ruchi Malaiya, BofA Merrill Lynch - Analyst [13]

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Ruchi Malaiya, Bank of America, Merrill Lynch. On your comments about the sustained competitive performance, perhaps you can help us understand. McGraw-Hill and Cengage have reported less steep declines in their higher education businesses in their most recent reports, so can you talk to us about how you think about market share in that higher education business, and what metrics you are tracking?

And then, in terms of the retailer destocking, how often do you speak to your retail partners? And are communicating with them the fact that 20% of your business is now direct to consumer? Is the issue here that they haven't understood how much your selling direct to consumer and, therefore, they're overstocking?

And then sorry, third one, if I can. I think you mentioned GEDU, which is up for sale, was declining, did I hear that correctly? And if so, can you talk to us what's happening in that business?

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John Fallon, Pearson plc - CEO [14]

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Thank you. I'll take the first one; ask Kevin to pick up on the retail partners issue; and then, Gio to pick up on GEDU.

I think I said, on the January call, that we track our competitive performance through something called the MPI data, which is basically collecting monthly data from us and the other five major players in the market. This is, obviously, only tracking half of the market, in a sense, because it's only looking at new sales; it doesn't cover the secondary market of share.

On a 12-month rolling average for the last couple of years has been very stable in a range of around 40% to 41.-something%. At the end of December, it was towards the bottom of that range. As you saw in the press release this morning, by the end of January it was back towards the middle of that range. And I suspect it may nudge a little bit further up over the next month or two.

And I think that's not anything to do with the underlying competitive performance of the business. That variation is to do with the fact that, as Kevin said, we moved from gross to net, in terms of incentivization plans, in December and so that would have had a short term effect.

But I think our share is very, very stable in that very narrow 40% to 41.-something% type range.

Kevin, do you want to talk about the efforts we're making to really engage much more directly with our retail partners? And, obviously, the rental program is part of that. And then, Gio, do you want to talk a little bit about the work that we've been doing in GEDU, which, for those who don't know, is a Chinese local test preparation business? So, Kevin?

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Kevin Capitani, Pearson plc - President, North America [15]

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The question was related to the frequency of contact with the partners and the interaction with them. We have stepped up the frequency significantly in our dialog with them. Physically, I think we meet together twice a month; that's a lot more than in the past.

In terms of data sharing, that's also increased significantly.

The inventory and the corrections, I think it's important that we point out that there was a race, or a competitive nature, to get into the rental market three, four years ago. And if you look at Amazon scale, size, and capability, they have pretty much done well in only in the rental market.

So the inventory correction is some of that [buy-in] a couple of years, where the inventory came in, where Follet Barnes and Noble, etc., were competing for that rental model. And now you're seeing the end result. That's not the best business for them. It's still profitable, it's very, very good. But given the size, scale, and what it's dealing with, Amazon has done really well.

Our rental models that we're moving into are related to us really taking ownership back of what we're putting into the secondary market; but as well, competing on price against the secondary market.

So the digital rental pricing that you're seeing, or that we're rolling out, is us being competitive with the text, so that we have an alternative choice. Affordability is an incredibly important thing in the industry, and it's our response to put the digital rental out there appropriately.

The text is us. And we've talked to the professors and the instructors about this significantly, do they care if they can only get via text? Their most important thing is that the students have access, and it's affordable for, say, a class. There's no issue whatsoever with that at all.

It's a revenue-share model, in addition with our partners. So we're using their logistics; they're getting the revenue out of it. It's not -- it's actually being well received in all the conversations that we're having.

If you tie those things together, our partnerships are increasing because we're dealing with the, let's say, enrolment struggle together, and the frequency with -- we're talking about it, and the data, it's increasingly being shared.

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John Fallon, Pearson plc - CEO [16]

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I just bring Gio in. I think your underlying point is actually absolutely the right one, that you've got a network of several thousand campus-based bookstores.

They still remain incredibly important, because 50% of our sales are still print-based. But they are losing share because as we grow digital students come directly [from] us, because the best place to get your digital courseware is direct from Pearson, which is obviously a great business model for us; and they're also losing share to Amazon as they grow the rental market in the way that Kevin has described.

And so, we are working really hard to manage this as tightly as we can.

And the textbook rental program is, frankly, as I think we said, at best, economically neutral over the three years; but what it does, it gives us greater visibility and transparency.

The caution, I would add, with all that disruption that does mean that whilst we're taking extra time and effort to really be very clear on the transparency of what's going on in the channel the scope for further shocks are there, just because this is what you find in any industry going through this analog-to-digital transition.

Gio, do you want to pick up on the point of how GEDU, our test prep business in China's, doing.

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Gio Giovannelli, Pearson plc - Managing Director, Brazil [17]

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As John said, GEDU is a test prep business in China. We worked this year toward making it better. So we transferred two of the centers in smaller cities to franchisees, we also reduced class sizes, and we moved over to more premium courses.

And we prepared the asset to be sold, because we believe that it can be better in the hands of a different owner than what we are. And the reason for that is, again, that it's not consistent with the strategy that John has articulated.

We're going to focus across the Company, including in China, in what is at the core of what we can do better than anybody else, which is the combination of content, class assessment, powered by technology, and services. That's why we took this decision, and we're expeditiously moving toward that. Thank you.

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Ian Whittaker, Liberum - Analyst [18]

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Ian Whittaker, Liberum. Just three questions, please. First of all, just in terms of the write-down that you've taken, I think the story that you've said today is 2016 was a uniquely challenging year.

You look, in terms of what you're saying, the market conditions impact in 2017 would be naught to GBP60 million versus GBP238 million impact from market conditions in 2016. So you're obviously expecting a notable improvement, and yet you've taken over GBP2.5 billion goodwill impairment, which is far more than half of your existing goodwill in your balance sheet. That followed an GBP850 million impairment that took place in 2015. And, obviously, goodwill is a forecast of future cash flows.

So just trying to reconcile the two in terms of how there has been such a significant write-down of goodwill, given the message, as it were, that 2016 is somewhat of a unique year and, relatively, things should get better, moving forward.

The second question is just coming back on the Penguin Random House, AM, and the net debt position. Your net debt is actually it's 1.4 times, so it's certainly not excessive for a publishing company.

You've said yourself that you should get earnings in the range of 48.5p to 55.5p, cash flow conversion rate of 90%, and so on. So all seems of quite reasonable. And yet, you've said that you're actually going to rebase your dividend from the current 52p level; and also, as well, you're looking to sell an asset which, even on the most optimistic sort of assumptions, would probably be broadly neutral to you in terms of EPS, and most people would assume is dilutive.

So just, actually, trying to reconcile. I know Coram gave some of the reasons why Penguin Random House would be sold now, but they didn't really seem like reasons to sell; they seemed more like the operational steps that have been taken in Penguin Random House. Can you give us a bit more color on to why that was the case, as well?

And the third thing, just coming back on US higher education in terms of your assumptions of the market moving forward, it doesn't seem as though, in terms of the assumptions, you've got anything there for price deflation that's coming through.

But one thing that check, which is the bit the rental company was mentioning, was that one of the reasons why our e-textbook market has been so poor is that essentially the prices have been too high in that students can get rentals for one-third of the price of a new e-textbook. So even if you cut the price by half they could still get the rental for less. And they're also saying, as well, that in terms of the price deflation they would like to see more price deflation in terms of physical textbooks.

I'm just wondering what assumptions you're making for price deflation, because it would seem as though you're assuming that, that model of keeping the prices where they are now is sustainable in the future, and that probably has some question marks over it.

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John Fallon, Pearson plc - CEO [19]

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Okay, Coram, do you want to pick up on the first two; and then, I'll talk a little bit around pricing; and then, ask Tim to talk more about all the additional features and functionality that we're bringing into

our courseware, which we think supports the value and price and affordability argument.

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Coram Williams, Pearson plc - CFO [20]

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On the write-down, this is a mechanical accounting effect.

The base profitability of Pearson, as you know, and as we told you in January, has come down by GBP180 million. If you flow that through a discounted cash flow model, and the way that the impairment model works, it takes the three years and it applies a perpetuity rate, you very quickly get to an impairment of the size that we've reported today. So this is completely consistent with what we've already told you.

I think the other thing to remember is that the majority of the goodwill on the balance sheet relates to the 1998 purchase of Simon & Schuster, and the 2001 purchase of NCS. And because of a quirk of accounting in the shift over to IFRS it got frozen in the balance sheet. So it's really a set of accounting coincidences that have come together here and driven this outcome.

On net debt and PRH, you're absolutely right, the two are not driving each other. So our net debt position is good. Actually, if you step back and you look at our cash conversion, net debt, and the fact that we've chosen to repay a bond today, the balance sheet is strong.

And I think the point I was trying to make in the presentation was that, actually, Penguin Random House is a strategic decision, not a balance-sheet driven decision. And the strategic reason for doing it is that it's not part of the core of Pearson.

We are focusing the Company, we're simplifying the Company, we're homing in on our core education assets, and we've always been clear that Penguin Random House is an economic stake. So the reasons I laid out for you were the reasons for our timing, but it is an economic stake and a strategic decision.

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John Fallon, Pearson plc - CEO [21]

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Okay. And then, on the third point, I think, Ian, this comes back to my point about use and value. Because, remember, we get 35% of the use in US colleges.

So 35% of all courses in America are completely dependent upon Pearson products. We're only achieving 20% of the value. What that tells you, there's quite a big gap already between what you're assuming is the headline price of Pearson products and what we're actually achieving per student.

So in the 50% of the business that is digital courseware, Tim can talk a little bit more about it, but average price per student would be about $100.

Clearly, we're actually achieving probably less than that per student on the print side of the business, because even if our prices are in the $200 range, if those books have been rented four, five, six times over a three-year semester, or even where students buy the textbook from us they often then sell it at the end of the year, prices are actually a lot lower than per student than you're assuming.

And the opportunity for us as we convert more from print to digital is we can actually increase share of use, increase share of value, but actually, you're right, deflate prices to students at the same time.

So shift from digital is a win-win: it's lower prices to students, and it's more value for Pearson. That's the exciting thing about making the analog-to-digital transition.

Tim, do you want to talk a little bit more about why then we think as we get to that digital courseware we get to that sort of price per student?

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Tim Bozik, Pearson plc - President, Global Product [22]

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Thanks, John, so, just a reminder --

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John Fallon, Pearson plc - CEO [23]

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Sorry, Tim runs our global product businesses, including higher education.

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Tim Bozik, Pearson plc - President, Global Product [24]

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Yes, I wasn't going to remind that part. But the higher ed courseware portfolio really is in three categories. There's a standalone text, whether it's print or digital; a blended category, which combines that with tools, like MyLab, Mastering; and a growing integrated digital category.

And I think John characterized that how we've tried to model and anticipate the relationship between price and value. And so there's not that much value in standalone digital e-text, which is why they're being price competitive with rental.

There is substantial both learning value, and, therefore, price value, in the integrated or blended category, as well as integrated category, and that's where we're making exciting investment in R&D that's resulting in the one slide that John shared.

So the direction of that is significant investment in 2017, major new launches in 2018, and scale of that in 2019.

And to put a little more color on that, the 2017 portfolio is our largest cycle; we're bringing in major [UX] enhancements and extending some of the capabilities and analytics in personalized learning.

We're continuing to innovate and expand REVEL into the business school, where there are 10 million addressable course enrolments and our relative share is lower. Digital uptake is modest and so there's headroom for us to grow in the business school with a model like REVEL.

And we're also piloting the IBM Watson capabilities this year.

And from an investment perspective, we're investing in this global learning platform this year, as well as other new assessment capabilities.

That translates then, in 2018, to a launch year, where we're launching major new products in STEM, areas with stable and growing enrolments, with innovative products where we're already leading, with deeper assessment about how students learn, not just what they learn. And that's where the real value in education will lie. And we're launching the IBM Watson capabilities in REVEL. All of which scales in 2019.

So we're very excited about what we're investing in this year. And what the returns will be over the next two years, from a profit perspective.

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John Fallon, Pearson plc - CEO [25]

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And that just reinforces the point that the eText is just a flat pdf version of the printed textbook. And the MyLabs, the mastering the REVEL, are a fundamentally different product. They personalize homework, they automate the setting and marking of homework, the sharing of collaboration. They do much more personalization.

You can only buy those products by registering directly with Pearson. And there is no secondary market in that at all. So that's why driving to 75% digital creates much more value and much more use for Pearson.

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Chris Collett, Deutsche Bank - Analyst [26]

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Chris Collett, Deutsche Bank. A couple of questions; one was just on the Core division. I think 2014, that business was making profits of about GBP150 million, it's now down to about GBP50 million, so lost GBP100 million of profits just in a couple of years. Obviously, there have been challenges, but can that come back? Or is that the new base?

Second question was just on in higher ed and the institutional selling model. As I understand it, you're selling the Pearson range, any desire to move in with other publishers and offer the full waterfront? I think you tried that in the past with CourseSmart, that didn't work out. So what are your thoughts there?

And then lastly, I just wonder if I could direct a question to Mr. Taurel. You've been Chairman for a year now, and we've had since then profit targets have been abandoned, GBP2.5 billion write-down. What are your thoughts on what you see of the business?

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John Fallon, Pearson plc - CEO [27]

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Rod Bristow, who is President of our core markets, Rod, do you want to pick up on that question first? And then, we'll come on to the higher-ed question.

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Rod Bristow, Pearson plc - President, Core [28]

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Thanks, John. And thanks for the question. As John and Coram were saying, we have seen, these last three, four years, a decline in particularly our BTEC registrations in the UK, as a result of change in government policy. That decline in BTEC registrations, though, has been slowing.

The revenue recognition, the way we recognize revenue means that there is a slight lag in terms of how that slowing decline in registrations shows up in revenue. But I can say that I'm confident that 2016 was the last year that we will see a decline in BTEC registrations. In fact, we are seeing renewed interest in BTEC in schools and in colleges.

The other reason for the decline that we've seen is profitability in core markets is a direct result of the investments that we've been making, investments into exciting new assessment and OPM services.

And, as you will have seen in the results, in the appendix of the slide deck, we've been seeing strong growth. And we are seeing a growing proportion of our revenues in core markets that are now made up of these exciting new growth segments of the market.

For both the reason of the end of the decline of BTEC and the growth in these exciting new services, I'm very confident that we're in a very good position to grow our revenues and profits in the future in core markets.

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John Fallon, Pearson plc - CEO [29]

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On your second question, Chris, the point about CourseSmart is well taken. I would say that, at the time, if you remember, CourseSmart was designed to meet a specific problem, which was doing efficient digital sampling. And I think it served its purpose. But, like many things in life, that purpose was served and then we all moved on.

I think in terms of where we are today, in terms of the direct digital access models, I think Pearson has a real competitive edge, because of the breadth of our waterfront. So we can meet significantly more of the institution's needs than any of our competitors.

But clearly, where there's a need and opportunity -- we were down at one particularly large customer down in Dallas at the start of the year, who raised exactly this issue. So we are -- it is something that we're thinking of, but I think we're very much pioneering on own at this point.

But, Kevin, do you want to pick up on that?

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Kevin Capitani, Pearson plc - President, North America [30]

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I would just add that I think a lot of the schools themselves, in particular, the two-year institutions, are going to drive us to work more collaboratively together with our competition.

And I think that this is where Follett, Barnes & Noble, and some of the other bookstores become a good aggregator and consolidator. And they have a big place to play, when all of that academic freedom in the three publishers that are main need to come together with similar terms of and conditions to enable that type of thing at a school.

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John Fallon, Pearson plc - CEO [31]

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And that then helps --

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Kevin Capitani, Pearson plc - President, North America [32]

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It helps.

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John Fallon, Pearson plc - CEO [33]

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-- to redefine their role when they're under pressure in some of the transition (multiple speakers).

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Kevin Capitani, Pearson plc - President, North America [34]

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Correct. And we'll work through that with them. And then further, we have the industry, the AAP, the industry [where] the association, we're beginning to have this discussion together and starting that is moving forward. You'll see, probably, some progress on that in the next six months.

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John Fallon, Pearson plc - CEO [35]

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Sidney do you want to pick it up?

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Sidney Taurel, Pearson plc - Chairman [36]

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Well, those of you who were here last year know that I was hoping for a boring year for Pearson and, fortunately, we've had more excitement than I was hoping for.

Let me say the following, though: on things which are under the control of the Company, which are the restructuring program, the implementation of TEP, which has not gone without some challenges, but I've not seen, in my experience, any program of that type that doesn't go without challenges, and, importantly, on the development of new products in the digital area, basically, what we set out to do has been implemented.

Beyond that, I think the Board was very engaged in a strategic review of the Company and the portfolio to ensure that we were the best owners of all the parts of the business; and that we would keep only those parts of the business which have synergy with the rest, and that we are very focused on capturing the synergies between the parts of the business which we keep.

This led to the decision, which was referred to earlier, to disengage, progressively, from the direct-delivery businesses which do not fit well with our strategy, as well as the decision on PRH.

What has created the excitement is that the market has been, I think, changing at a faster pace than what was expected. That led to, obviously, a disappointment in the hired market performance and business performance of the Company, and, therefore, the decision to withdraw the guidance for 2018, as well as a decision to rebase the dividend.

I mentioned that we got the help of consultants to look at the portfolio. They also gave us an independent view of where the market was going. Amazingly, they got to figures, and they are experts in the education business, for their forecast of where the Company was going which were very close to management's own figure, and which that reinforced the Board's confidence in the figures we had at that time.

I think it's fair to say that the changes in the marketplace were not foreseen by anybody in the business. Well, there were some exceptions, yes; a couple of analysts, I think, who were seeing some stronger trends. But the people involved in the business I think saw it a bit differently. In 2016, it's been certainly worse than what was expected.

In retrospect, first of all, I think we probably should have been less confident on the forecasts. I think this is experience to have also on the IBM board. IBM is engaged in a major transformation, and the lesson we've learnt is that it's very, very difficult to forecast accurately in a market which is in a profound transition. And perhaps we could have gotten engaged in the tactical response on the rental business.

But the main strategy, which is to strongly invest in the digital transformation, in the global learning platform, which is to simplify the business, to integrate it with one ERP, one eCommerce platform, and so on, is the right one.

Looking to the future, I think we have a transition, which is probably longer and more painful than what was expected. But the long-term future looks very positive, given the strengths of the Company that were, I think, very much illustrated in the comments that you heard earlier.

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John Fallon, Pearson plc - CEO [37]

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Thanks, Sidney. I'm going to take a couple of questions that have come in online, and then I'll come back to people, colleagues in the room.

One for Gio Giovannelli. Given your focus on content assessment and assessment, rather direct delivery, what can you say about the future of the language school business in Brazil? Gio, do you want to pick up on that, that question?

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Gio Giovannelli, Pearson plc - Managing Director, Brazil [38]

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The language business in Brazil has, actually, good prospects. It's at the core of what we're trying to do as a Company because it operates in a completely different model than the two businesses I described before.

It is operated through third-party franchisees. Our job, as Pearson, is to provide them with a superior solution in term of product, of service; to have assessments linked to this; and to have a great experience for our students in the schools.

We have about 600,000 students studying them. We have the strongest brands. We have market leadership, about 25% of market share. We have increased market share in this difficult face of the Brazilian economy.

As you know, Brazil is going through one of the most difficult crises in decades; and in spite of that, as Coram mentioned before, our revenues only marginally declined in Brazil, so we gained market shares.

I think the business is operating at the core of what we're trying to do in terms of strategy. It's doing well, and we're looking forward to growing it in the next few years.

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John Fallon, Pearson plc - CEO [39]

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Both (inaudible) and Sistema, as being franchise businesses, great examples of exactly the sort of partnership model we'd like to (multiple speakers).

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Gio Giovannelli, Pearson plc - Managing Director, Brazil [40]

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Sistema is another similar business that operates, also through partners, their own schools. We have, in a similar way, a solution called [Sistema], which consists in a brand, in product assessment, and we service the clients. We are also doing very well. Also in that business, in spite of the decline, we maintained revenues and we increased market share this year.

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John Fallon, Pearson plc - CEO [41]

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There's a question here about where we are. We've talked a lot in previous meetings about decommissioning legacy technology systems, upgrading the experience, and where are we in that process of consolidation and how much further is there to go?

Albert Hitchcock is our Chief Technology Officer, do you want to pick up on that? And then, we'll come back to questions in the room.

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Albert Hitchcock, Pearson plc - CTO [42]

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Good morning. I think we're making excellent progress in terms of the simplification of our technology landscape. Last year, we took out over 1,000 applications.

If you remember, we've got a two-strategy approach to basically simplification of technology but also building the very latest platform ecosystem for the Company. Taking out 1,000 applications, one aspect.

Moving to the cloud. We've moved over 20% of our computing capacity last year to the public cloud, so that's going on as well.

And we're also building a number of new platforms. We've got a single ERP system that we're putting in place; that went live in the UK business last year. We're going to be rolling that out across the US businesses in 2018.

We have new CRM systems in place with salesforce.com. 65% of the Company revenue is now flowing through a single version of salesforce.com.

And we are rolling out new eCommerce platforms, as was mentioned, new identity platforms, new content systems.

So, major transformation of the technology landscape.

I think John mentioned the global learning platform. This is, basically, a brand new micro-services cloud-based platform that will be comparable to the best Internet platforms out there in the industry today. We're building that right now, and we're going to be deploying that in 2018 with new courseware and own content.

So a very exciting plan, and going very well.

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John Fallon, Pearson plc - CEO [43]

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Thank you. Come back to questions in the room.

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Matthew Walker, Credit Suisse - Analyst [44]

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Matthew Walker, Credit Suisse. Again, it's a question for the Chairman. Thanks for coming to the meeting. Basically, it's on cost savings.

What's happening is you've got probably GBP900 million to GBP1 billion cost base, potentially, in some of the troubled businesses; you've got GBP180 million shortfall; you've got GBP55 million of bonuses going back in; you've got GBP55 million discretionary costs, which are going back in. Essentially, why is it that the Board is not being a lot tougher in terms of insisting on a lot more aggressive cost reduction?

I appreciate it's a business where you've got to incentivize people. But it seems to me that you've experienced such a radical rebasing of profitability, compared to where you're expected to be, I think we should be hearing a lot more about much more aggressive savings. I'd just like to know why that's not the case. And if it is going to be the case later in the year, how aggressive are you going to be?

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John Fallon, Pearson plc - CEO [45]

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Sidney, do you want to pick up on that?

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Sidney Taurel, Pearson plc - Chairman [46]

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Yes. Basically, I think, last year I also shared the view that our cost base was too high and we took very significant steps in 2016 to address that.

And the feeling now is that there is more to do. There is more that needs to be done because the size of the business has been reduced, as you say. And so the management team is very, very engaged in coming up with a very significant reduction in cost. And, as John said earlier, you need the appropriate time with a proper sense of urgency to do that well. So that's what the Board is focused on.

You referred to the bonus. As you know, there was no bonus payment last year. The bonus payment this year will be less than half the budgeted amount because the Company produced at the lower end of the range, but still within the range. So I think it's appropriate to have that sort of level of bonus.

And I think, as John mentioned, any program that we have in terms of cost reduction will probably get charged this year, and most of the benefit come in next year. But it's extremely important that this be aggressive and well planned.

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John Fallon, Pearson plc - CEO [47]

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And I would just add, very clear, there is a lot more we can do. But let's be in no doubt, we did take very significant cost savings last year. We've taken somewhere close now to GBP700 million of cost out of a GBP4 billion cost base in under four years, and we've seen something like 7,000 people leave the Company out of the global workforce of 40,000 people.

So there is more to do. There is more that we need to do. But we are in absolutely no doubt of the further opportunity that there is, but also how important it is that we do this carefully, that we do it properly, and that we do it decently; in line with the values that have defined Pearson throughout my 20 years here, and always will.

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Katherine Tait, Goldman Sachs - Analyst [48]

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Katherine Tait, Goldman Sachs. Three questions from me, please. Firstly, just on the simplification that you've laid out today, and particularly the reducing exposure to direct delivery, I suppose the announcements that you've made, GBP3 million of adjusted operating profit, is not a huge amount in the context of your entire business. Is there more to come from that area?

How much more direct delivery is there within your business that you feel you could, perhaps, move away from within this context? And are there other areas which you could also see within your portfolio that would add to that simplification story? Just a bit more color around that.

Secondly, I know it's early days, but on the e-books reduction in price that you announced in January, can you give an update on any early results that you're seeing from that perspective?

And then thirdly, I'm just curious, with respect to the 35% share of usage versus 20% of share of value, what do you think is the real mismatch between those two values? Is it that your competitors are too highly priced and that they need to bring down their prices? Or is there a product mix impact there? Just curious to understand what that difference is and how you're planning to remediate that.

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John Fallon, Pearson plc - CEO [49]

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Very quickly on the third point, the difference is the secondary market.

Our biggest competitor is increasingly secondary sales of our own intellectual property and generated: that's a problem that only exists in the analog, print, and text world. It doesn't exist in the digital courseware world, because the only place you can get Pearson products and services is directly from us, and you can't use them unless you pay us directly for them, and register for them.

So it's really been driven by the secondary market that has always been there, but has grown over the last few years, and has clearly been helped by, with hindsight, inflation in text book prices that were above the rate of general inflation. That's the challenge.

But what's exciting about the opportunities is it's in our own hands to close that gap by doing all of the fantastic new features and functionality that Tim was talking about earlier.

On your second question on e-books rental, it's only just gone live. We will update you as we go through the year, but it's a little early as yet.

And on the first point, clearly, I think we have a good history of we announce things publicly when we're ready to announce them and not beforehand.

I think, we do have other direct-delivery businesses in parts of the Company now, a relatively small part of the portfolio. But I think you would expect just to go through a similar process, where we'd be looking about what the opportunities for partnerships and scaling and the like would be, but we'll announce those as and when we get there.

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Giasone Salati, Macquarie - Analyst [50]

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Giasone Salati, Macquarie. Only two questions, please. First, I think you said clearly that there is a possibility of announcing another restructuring, and that's fine, you're still working on that. Do you think you now have enough visibility on revenues, given the wide range, to say that there are no more elements of surprise? The uncertainty is captured in that range, going forward?

Secondly, I'm going to steal the AI question from Matt. There is a lot of IBM Watson logo on your slides, and from my personal experience they do require any counterparty to make a sizeable investment. I wonder, if AI is really actually something which turns out to be interesting, what is the risk of Pearson being locked with a different brand and with a cost structure which might change at will of a third party, again?

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John Fallon, Pearson plc - CEO [51]

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On your first question, I would endorse the comment that Sidney made earlier. I think one of the things that we learnt, very painfully, last year is just how difficult it is to predict the size and scale and pace of change as you're going through such a profound analog to digital disruption, as we are.

But, Coram, do you want to talk a little bit about what we're doing to try and be much more self aware of those issues, and try and give ourselves as much visibility as we possibly can?

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Coram Williams, Pearson plc - CFO [52]

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Yes, I think it's a mix of the more intensive conversations that Kevin mentioned earlier with our retail partners, because that's clearly the area where we've had the biggest surprises, constantly trying to improve the data flow that comes there.

And then, in terms of financial planning, I think we've tried to be very clear in providing book ends on the assumptions for what we expect is happening.

And in both cases, bottom and top of the range, we are assuming there is an underlying decline of 6% to 7% in US higher education, and the swing is driven by whether or not returns stay up at their current elevated levels or come back down to what we saw before, autumn 2015.

So it's a combination of the intensity of the conversations, and being clear about the parameters, and flowing those into our financial plans.

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John Fallon, Pearson plc - CEO [53]

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Okay. Tim, do you want to talk a bit more about the IBM Watson relationship, and how that's going, and pick up on the more specific points?

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Tim Bozik, Pearson plc - President, Global Product [54]

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I'm not an expert on AI, or AI in education, but I think it's fair to say we're still in very early days around that. Let me just separate the response two ways. One is the partnership with IBM, from a testing and development standpoint, is going quite well. It's also reinforcing -- this is quite complicated. Even specifically training Watson in very specific ways that students learn, I think reflects the dependency on both parties in this.

Longer term, we believe that AI, or augmented intelligence, and its related cognitive computing capabilities, can contribute to better teaching and learning. But it's a part.

We think it's very much a part that will help enable teaching and better learning. But it's also going to be highly dependent on very strong relationship with the customers and contacts, understanding of all that; and the sort of accommodation of content and assessment capabilities I think are part of our core competency that's highly complementary and, actually, in the long run can benefit students and educators far more, rather than being a competitive issue, as a long-term trend.

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John Fallon, Pearson plc - CEO [55]

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I think the other point I would add is just the preponderance of IBM Watson logos shouldn't delude you from the fact that, actually, we've got extensive range of third-party partnerships.

Really excited, I saw a demo of something we're doing with HoloLens, where we're working with the Royal College of Surgeons to help people replicate, practice for surgery, and the like. Incredibly exciting.

But the most important thing is how much more home grown stuff we're doing now; the big increase we've made in research and development in our own adaptive learning capabilities that are Pearson proprietary and built in. And that's what's really the fundamental driver of the organic growth that we're going to have.

Now, I don't know how this always happens, but, Patrick, you've got the last question.

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Patrick Wellington, Morgan Stanley - Analyst [56]

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Patrick Wellington, Morgan Stanley. A couple of questions. I don't think I've heard, in the course of your presentation, a justification for why Pearson, now a mid-cap, exists as a global education business. You're scratching the surface with a, frankly, couple of disposals. Why do you need Core, Growth, and North America together? Couldn't something more radical be done?

Secondly, possibly one for Coram, I couldn't help noticing, as I walked into the building, there's a large sign on the right saying that somebody is trying to rent 24,000 square feet of this building. You could either answer that directly or talk about your leases and whether any shift might happen to them at any point in the future.

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John Fallon, Pearson plc - CEO [57]

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Do you want to pick on that second one?

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Coram Williams, Pearson plc - CFO [58]

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Why don't I take that one? I can assure you that the 24,000 square feet that's being leased, that's being sub-let, in the building is not ours. It's a sign of how little space we now have that I was unable to have that sign removed (laughter).

I think, stepping back, we've always been clear that our London property portfolio is now actually greater than the requirements for the business. We have 1 Southwark Bridge, a couple of bridges down, which the FT will be leaving in about one year. Obviously, this building, you know, has a very lengthy lease to it, and that impacts our credit rating through the lease adjusted net debt. And we have a couple of other properties.

So we are actively reviewing that portfolio. But, as you know, these kinds of moves take a long time. So this is something that is absolutely on the agenda, but we're not yet in a position to confirm what we might or might not be doing.

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John Fallon, Pearson plc - CEO [59]

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Yes. And on the first part of your question, I think there is now a greater coherence to Pearson than there has been at any point in the last, certainly, 20 years of the Company.

The short-term travails and challenges that we face should not kid anybody that education is a major and important sector that will only become more important to societies and communities around the world over the next 20 years; that it's going through the same disruptive changes through technology as every other part of modern human life. But there's going to be big winners that emerge from that disruption, and we are going to make sure that Pearson is the winner in digital learning.

And we do that by working on the things that make us a better Company than anybody else: world-class content, world-class assessment, understanding how people teach and learn more effectively. And combining that with the power of a platform-based strategy that has required huge investment, not very attractive or glamorous stuff to do, in one way, over the last five years, but means that we are now poised, I think, for the most exciting way of organic innovation; and really shifting the strategy of this Company through innovating through acquisitions, through innovating via home-grown talent, home-grown research and development, and partnering with the best companies in their fields in the world, like an IBM, or a Microsoft.

And as hard and as difficult as it is, I don't think you should be in any doubt that we'll deliver on that vision and we'll see Pearson grow, and deliver very strongly in the years ahead. And look forward to being on that journey with you.

Thanks very much. And thanks for joining us. And as ever, Tom Waldron is here. And if you've any follow-up questions, we'll be very happy to take them in the course of the day. Thanks a lot.