Thomas Donohue - IR Michael Huseby - Executive Chairman Barry Brover - CFO Patrick Maloney - EVP and COO and President, Barnes & Noble College

Mark Rosenkranz - Craig-Hallum Capital Group Vahid Khorsand - BWS Financial Greg Pendy - Sidoti & Company Nick Dempsey - Barclays Capital

Good day everyone and welcome to the Barnes & Noble Education First Quarter Earnings 2018 Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Mr. Thomas Donohue. Please go ahead, sir.

Thank you. Good morning and welcome to our first quarter 2018 earnings call. Joining us today are Mike Huseby, Executive Chairman; Patrick Maloney, Chief Operating Officer of Barnes & Noble Education and President of Barnes & Noble College; Barry Brover, CFO; and Kanuj Malhotra, Chief Operating Officer of Digital Education, as well as other members of our senior management team. Before we begin, I would remind you that the statements we will make on today's call are covered by our Safe Harbor disclaimer contained in our press release and public documents. The contents of this call are for the property of Barnes & Noble Education, and are not for rebroadcast or use by any other party without prior written consent of Barnes & Noble Education. During this call, we will be making forward-looking statements with predictions, projections and other statements about future events. These statements are based upon current expectations and assumptions that are subject to risks and uncertainties, including those contained in our press release and public filings with the Securities and Exchange Commission. The company disclaims any obligation to update any forward-looking statements that may be made or discussed during this call. At this time, I'll turn the call over to Mike Huseby.

Thanks Tom and good morning everyone. As we reported this morning, consolidated sales for the first quarter increased 49% to $355.7 million, with BN College or BNC contributing $250 million and MBS contributing $140 million before intercompany eliminations of $34 million. This elimination primarily represents wholesale sales by MBS to BNC. We expect the gross profit of approximately $12 million from those sales to be recognized as BNC sells through the inventory during the fall rush. The competitive wins posted of our College business together with MBS contributing its first full quarter of operating results, Student Brands acquisition and the significant momentum we are gaining with our LoudCloud based digital offerings, are all strong evidence they were -- that we are executing on our stated strategy. We are continuing to develop BNED as a growth platform, both organically and through complementary accretive acquisitions that are significantly increasing the revenue, adjusted EBITDA, and free cash flow of our company. We define free cash flow as our adjusted EBITDA less CapEx, cash taxes, and net interest paid. While we focus on revenue and adjusted EBITDA measures as our key performance measures for reporting and incentive compensation purposes, our decisions are heavily influenced by free cash flow considerations given its importance to our financial and operating flexibility. Maintaining such flexibility is vital to our ability to make and execute strategic and operating decisions that build value in a competitive and changing market we are operating in. When considering companies to acquire and the acquisitions we have made, free cash flow generation ability is one of the main considerations. Both MBS and Student Brands had very favorable adjusted EBITDA to free cash flow conversion ratios. We've used a combination of cash and debt to finance these vital additions to our asset base. With low incremental borrowing cost, our financial position remains strong and we will enjoy future tax benefits from the basis step-ups we achieved in structuring both the MBS and Student Brands transactions as asset acquisitions for tax purposes. Barry will discuss our overall financial position in further detail during his comments. Turning to our Barnes & Noble College segment, first quarter of 2018 comp store sales declined $5.5 million or 2.5%, primarily driven by textbook sales, which were down $8.4 million or 8.5% on a comparable store basis. As Barry will discuss further, these results reflect the seasonality of textbook sales during the summer semesters where we continue to see a trend of schools offering fewer summer courses in order to reduce their operating costs. We're heavily focused on growing our general merchandise business and sales increased for general merchandise in the first quarter by $3.6 million or 3.3% on a comp store basis, which accounted for approximately 50% of total BNC sales for the quarter. These results highlight the sales and margin opportunities of campus events such as graduation, new student orientations, and local community activities. We continue to see strong growth in our e-commerce channel as we capture new customers and sales through our True Spirit Athletic and Alumni-focused websites. We now operate True Spirit sites at approximately 70 schools including Penn State, University of South Carolina, Georgetown, and Liberty University. We are also excited to partner with Target on their back-to-school strategy. Our marketing partnership which kicked off in the fourth quarter of fiscal 2017 leverages our unique access to students and parents to promote Target's college essentials to our college campuses across the country. In addition, our pipeline for new business remains very strong. We opened 24 new BNC stores including Tarrant Community College, Eastern Gateway Community College, and St. Joseph University. Our store teams successfully transitioned these wins within the quarter. We closed 12 stores within the quarter of which five stores were satellite locations where we retained the overall contract and seven stores with average sales of $1.2 million, we elected to close for loss on a competitive bid. The estimated annual sales of net new stores opened thus far in fiscal 2018 is approximately $40 million for Barnes & Noble College. As we continue to compete and to win in the marketplace for our course bookstore business, we also continue to grow our digital offerings. We have gained significant momentum in OER courseware adoption with a number of institutional clients, including community colleges, four-year public universities, and four-year private universities. We also recently announced three important strategic initiatives for our digital business. First, we've begun implementations of LoudSight, our predictive analytics offering under our previously announced agreements with Unizin, a consortium of 22 large public universities that are leading research institutions that have a common goal of enhancing academic success using digital technology. Our agreement with Unizin further establishes strong credibility for our analytic solution, while also allowing us to serve customers outside of the BNC historical footprint. This long-term agreement consists of a software license for the product, and in addition we drive additional revenues from services such as integration, training, development, and data services, as we implement each individual university system. A second strategic initiative was a successful acquisition of Student Brands, a leading direct-to-student subscription-based writing skills service business is. This acquisition gives us our first direct-to-student sales channel and expands our footprint to include Student Brands 20 million unique monthly visitors. Student Brands is immediately financially accretive with an expectation of more than $10 million of EBITDA contribution in the next 12 months. Importantly, Student Brands brings us strong technology and business talent to help us build our direct-to-student product base. Its current and potential portfolio of services represent an important addition to our competitive positioning for market relevance and therefore growth in both our core and future services businesses. This transaction and its benefits to us were discussed together with the presentation during our August 7th Investor Call, the details of which could be found on our website at bned.com. Thirdly, as we disclosed in a separate press release this morning, we have entered into a multi-year contract with Eastern Gateway Community College in Ohio to provide institution-wide LMS and our LoudSight analytics solutions in addition to operating a campus bookstore. The importance of our LMS solution to drive digital engagement from students and our retention tools with our analytics platform will help to continue to drive enrollment and completion rates at EGCC. These solutions are expected to help drive their enrollment growth and ultimately improve student retention. These 3 reactions together with our MBS acquisition have strengthened our business and are further positioning BNED as a solid platform for growth. Regarding our vitally important new MBS segment where we are reporting its contribution for a full reporting quarter for the first time, MBS' total sales for the quarter were a $139.8 million with $92.5 million attributable to MBS wholesale. The first quarter is typically the largest sales quarter for MBS Wholesale as it sells to college bookstores in advance of the back-to-school fall rush season. MBS Direct signed 10 new stores in the first quarter and closed eight, bringing the MBS store count the 714 and the combined Barnes & Noble Education store count to 1,495 physical and virtual bookstore locations. As we integrate MBS' operation to ours, we continue to be pleased with MBS' performance relative to our expectations as reflected in our acquisition business and financial model as of the date of the acquisition in February. Starting in July, we began to realize synergies related to inventory optimization and we were able to transfer underutilized inventory from BNC to MBS. MBS was then able to sell a large portion of that inventory. During this fall rush season, we will recognize increased benefits from the operational synergies MBS provides such as supply cost management and optimized textbook sourcing. The value of the extended student reach of the MBS portfolio is already live with early launches of custom schools spirit shops and new acquisition targets for our brand partners. With the exiting addition of Student Brands, the cross platform synergies for revenue growth is promising. We're excited to have students and faculty returning to the fall semester and look forward to meeting their needs in the fall rush period through operating such as our competitive price-managed program and our array publisher-hosted content available in our stores and on our websites. Our Student Brands booksellers are welcoming new customers as we speak, communicating our message of affordability and at the campus bookstore as a complete support system for them. Our social hub events calendar has kicked off with our new student VIP shopping events with close to 400 campuses participating. As the fall [Indiscernible] calendar begins, our schools are prepared for game day initiatives, homecoming, alumni and parent weekends. All of our team members are working not just within each of their own business units, but also across all of our businesses together to create and deliver what our customers are demanding, affordable and high-quality integrated educational services and content that will result in improved student and partner experiences and outcomes. In closing, I'd like to take just a moment to extend our heartfelt concern to all those who have been affected by Hurricane Harvey. Our thoughts are with our students, faculty, booksellers, and their families during this difficult time. As the people of Southeast Texas recover from this unprecedented natural disaster, we will work with our school partners to reopen our bookstores so that we may continue to serve our communities. We will keep, as we hope you will, the people of Texas, in our thoughts and in our prayers. With that, I will turn over to Barry Brover for the financial review.

Thank you, Mike. Please note that the first quarter ended on July 29th, 2017, consisted of 13 weeks and is presented on a standalone basis. Full comparisons will be to the first quarter of fiscal 2017, which excludes MBS. Total sales for the quarter were $355.7 million compared with $239.2 million from the prior year. The increase of $116.5 million or 48.7% was primarily driven by revenue increases of $139.8 million from the MBS segment with $10.7 million from the BNC segment for intercompany eliminations of $34 million. Sales at BNC increased by $10.7 million or 4.5% as increases from net new stores and service revenue exceeded the comp store sales decline. Comp store sales decreased by 2.5% compared to a decrease of 2.8% in the prior year period. The improvement in overall comp sales decline rate was due to the improved results of general merchandise sales despite the large decline in comparable textbook sales. Textbook sales for the first quarter declined 8.5% compared to a prior year period decline of 6.8%. The textbook sales in the quarter as a result of school offerings, fewer summer courses, which we do not expect to be indicative of the fall trend. Sales for MBS wholesale in the first quarter, which historically has been wholesale's largest sales quarter were $92.5 million and in line with expectations. Similar to the timing of the sales trends at BNC, we're seeing later sales at MBS wholesale and expect Q2 sales to be a greater percentage of the year as compared to prior years. First quarter sales for MBS Direct, which historically has been a second largest sales quarter was $47.3 million and also in line with our expectations. All this is the large sales month both MBS wholesale and Direct and based upon the sales results so far, we expect MBS sales at the end of Q2 to be in line with our expectations. Our rental income for the quarter was $21.2 million, a slight decrease of $0.3 million or 1.4% as a result of schools offering fewer summer courses. Gross margins decreased by 160 basis points to $64.7 million. The margin at BNC was 30 basis points lower than the previous period and was impacted by increased markdowns on textbooks, partially offset by higher general merchandise sales and lower contract cost for renewals and new contracts. The margin rate at MBS was impacted by the $2.2 million amortization utilization of the incremental cost of sales related to the inventory step-up as product purchase accounting. The step-up will be fully amortized in the second quarter. Excluding the amortization, the gross margin at MBS was 21.3%. Selling and administrative expenses increased by $15.5 million and $99.4 million. $13.8 million of the increase relates to MBS and $1.7 million is from BNC and primarily relates to new stores. Our continued focus on expense management resulted in lower selling and administrative expenses as a percentage of sales at our BNC segment. As a result of the CEO transition, we recorded $5.2 million in related charges during the quarter. With the appointments of Mike Huseby the CEO and Chairman of the Board, we have combined two positions into one, which is expected to result in annual savings of approximately $2 million. The fiscal first quarter net loss was $34.8 million or $0.75 per share compared with a net loss of $27.9 million or $0.60 per share in the prior year. Due to the acquisition of MBS and their results, our adjusted EBITDA improved by a $4.1 million to a loss of $32.4 million for the quarter compared to a loss of $36.5 million in the prior year. The loss is consistent with the seasonality of the business, with the BNC first quarter sales being the lowest and new stores at BNC incurring the higher startup costs. MBS contributed $16.1 million of adjusted EBITDA during the quarter. The intercompany elimination of sales and cost to sales are primarily related to sales from MBS to BNC, and wholesale commissions earned on textbooks sold to MBS by BNC. The adjusted EBITDA impact of $11.6 million, primarily relates to the intercompany profit realized for textbooks sold by MBS to BNC and remaining in the BNC inventory at the end of the quarter prior to the fall rush. We expect the adjusted EBITDA impact to be realized in the second quarter when BNC sells these textbooks. The effective tax rate for the quarter was 40.6% compared with 47.8% in the prior year, the lower tax rate compared with last year is primarily result of changes in our executive compensation program to reduce the amount that was not deductible. Our cash balance at the end of the quarter was $14.2 million. In addition, we had a seasonal borrowings of $220.1 million, which includes $100 million under the bylaw. With the acquisition of Student Brands earlier this month, we now expect our peak borrowings to be approximately $285 million and to be fully paid down in mid-September and we will remain out of the credit facility through mid-October. We expect the average debt to be approximately $140 million over the course of the year. At the end of the fiscal first quarter, inventory increased by $56 million due to the inclusion of MBS. BNC inventory decreased by $69 million as a result of continued improvements in purchasing and inventory management. Accounts payable was below last year, consistent with the lower inventory levels at BNC. Inventory and payables are typically at a peak for the year at the end of Q1 as we're building inventory for the fall rush. CapEx for the first quarter was $7.9 million compared to $6.2 million in the prior year, the increase of $1.7 million was primarily due to both new store contracts and renewals of existing stores as well as the inclusion of MBS. Currently, our BNC store count is 781, having opened 24 new stores and closed 12 in the quarter. We will be opening another two stores in fiscal 2018 based upon contracts signed to-date Our MBS store count is 714, having signed 10 and closed eight virtual contracts for an additional $4 million of estimated sales in 2018. Turning to our fiscal 2018 outlook, through the fiscal year 2018, the company continues to expect sales at BNC to be relatively flat, while BNC comparable store sales are projected to decline in the low to mid-single-digit percentage point range year-over-year. In addition, the company expects consolidated sales to be in the range of $2.25 billion to $2.35 billion before intercompany sales eliminations. Capital expenditures are expected to be approximately $50 million, an increase from fiscal 2017 due to new store growth at BNC. With that, we'll open the call for questions. Operator, please provide the instructions for those interested in asking a question.

[Operator Instructions] We'll go first to our first caller.

Hey everyone, this is Mark Rosenkranz, Craig-Hallum.

Hi Mark.

Just want to start -- you mentioned some of the synergies you saw between MBS and BNC during the quarter. I wondered if you could expand a little bit on that, will that be kind of near-term gains that you see just from the overall initial steps of the integration or do you kind of see that as a potential long-term for beyond just this year's enrollment?

Hi, Mark, this is Patrick Maloney. No the synergies that we're realizing are long-term. This is primarily the utilization of the inventory between MBS and Barnes & Noble College. We took underutilized inventory after our needs were met for sourcing over the summer and transferred that inventory over to MBS, who was subsequently able to sell a large amount of that inventory out into the industry to other wholesale customers. In addition, we have been able to start to monetize the student base at MBS with our marketing channel partners and have been able to drive revenue in that stream also, both of those would be reoccurring as time goes on.

The other thing I would say, it's Mike Huseby, is that the monetization of the student base is really just starting. The integration of MBS is coming along nicely, both these management teams have worked together with each other for a long time and under Patrick's leadership and then Dave Henderson at MBS working together so well and so closely. We would expect to have more revenue synergies as we get deeper into the integrated -- integration and as we pick in on new assets like Student Brands for example, and as we start to get more traction as we indicated on our analytics platform and some of our digital offerings and OER. So, the idea here is to take this distribution platform above our market focus on both direct to student and institutions, develop these products, and then spread them to the extent that we can through effective marketing and sales effort, and that really hasn't started in any kind of scale yet Mark.

Okay. Thanks. That's helpful. And then switching gears a little bit, you had a nice a general merchandise on the quarter. Would you attribute some of that performances are you seeing better enrollment trends? Or is that just a kind of some of the improvements in marketing you've discussed in previous quarters? Just wondering your thoughts on the current competitive environment when it comes to general merchandise?

I think, Mark this is Patrick again, I think the 3.3% increase that we posted, which was greater than the increase that we had in the prior quarter for the same quarter last year was attributable basically to a rebounding in the general retail market that existed, but also we had a lot of success and continue to have a lot of success in driving our sales online through our promotional calendar, which was very successful. We had a very strong graduation season with parents coming to campuses and celebrating graduation of their students as well as we have had very strong results from our True Spirit websites, which are geared towards athletic and alumni in particular. So all of those segments we believe contributed to the 3.3% increase in general merchandise sales.

And those True Spirit websites that we mentioned are in 70 schools, which is probably about twice as many as last year.

Yes, yes. And most of our larger campuses Penn State as Mike had mentioned, before University of South Carolina, Georgetown, they’re all gaining a lot of tractions with the alums and the athletic departments.

Okay, that's helpful. Thanks for taking my questions.

We will go to our next caller.

It's Vahid from BWS Financial. First question, if you could talk a little bit about the Target relationship and what kind of revenue contributions you could see from that?

Yes, we can't talk specifically about what our financial arrangements are with Target, what we can say is that we have a number of those types of relationships with other marketing partners and have had although I think that now we have a better larger increased base over which to sell those partnerships into the company. The Target itself mentioned this relationship on their earnings call about a week or so ago, and that should speak to the relative significance of the company that size is singling that out. So, we can't really talk about our confidential arrangements in terms of what we get paid or how that helps us drive traffic to our stores and what that means, but it's a very positive relationship and is one that we enjoy with other companies as well.

Okay. And then, on the MBS side. You had previously disclosed that for MBS Q1, it was about 31% of their sales. And now you're saying Q2 is going to be slightly higher than Q1, is there a percentage number you could provide of your expectations of that?

No. This is Barry Brover. We do know based on the sales to date, the flow of inventory as well as the sales trends, we expect that the Q2 sales that wholesale to be a higher percentage than the previous years. So, there is a little bit of a shift from Q1 to Q2 in the marketplace. But overall, we're seeing for both wholesale and Direct, the overall sales in line with our expectations.

Okay. So, -- just using that math and then, I mean if we are going with expectations. I have now a significant drop in total MBS sales and I don't know if that's what you're seeing right now?

Well, I think based on guidance, that we overall sales guidance that we had put out the range of MBS sales within the guidance assuming BNC flat was in the range of $400 million to $500 million of annual sales for MBS.

And we're not changing that guidance.

And we're not -- we haven't changed that guidance, as we have stated the MBS sales are in line with our expectations.

Okay. And then, just going to same-store sales. I mean the declines, it's been a pretty much a year. So, is it going to be something where we see in Q2 same-store sales are flat compared to last year? Or they is it even a further continue decline that you're experiencing?

No, first of, we're giving guidance on there, we are giving on our annual basis, we disclosed what it is each quarter. And we're not going to project it on a quarterly basis. The other thing I wanted to say is with respect to your target question, if you look in the earnings release sales information in the tables, you will see that there is a, under BNC sales, there is a line service revenue. And there is a footnote there, anyway it describes what that service revenue is, which includes the brand partnerships. You can see that it's up to $1.9 million for the quarter versus $100,000 last year. That doesn't need, we have received cash of $1.9 million, the deals that are entered into, we received payments and earnings in different quarters. But it's just to give you a flavor for the relative significance in the quarter. I just wanted to come back to that one question.

Of the increase.

Yes the increase. Yes.

Okay. Thank you very much.

And we'll proceed to our next caller.

Hi, it's Greg Pendy at Sidoti calling in.

Hey Greg.

Hey guys. Just can you give a little bit, I know you mentioned that there were less courses offered over the summer, which is helpful. But can you kind of tell us how we should be thinking about that playing out? I guess, is that something that's going to be a trend as long as unemployment right now just kind of remains very low, is that something? How does that play into the upcoming quarter? Our students behind on credits right now, do you think there is a catchup. How should we think about that?

Okay. This is Patrick. As Mike prefaced, this is a trend that we've seen over the last few years as schools look to reduce their expenses, their offering, less course offerings over the summer semester. And as Barry said in his comments, we do not think that this is indicative of what we expect for the full semester. But we definitely have seen this over the last three years, whether schools reverse that trend in the future we can't really speak to. But that's just what we had seen in the last few years and our sales declined, I think 8.5% compared to 6.8%. So, not a huge difference, but again, we saw a drop and we measure number of adoptions that we received as well as the number of books that faculty are requesting as well as the number of books that our store managers request the country order. So, again, we don't think that's indicative of the quarter that we're in right now in the fall rush.

Okay. That's helpful. And then -- sorry, if I missed it, but -- can you, and I know it's not a seasonally big quarter, but can you give us any color on kind of what the breakdown is of community colleges where they outsized weakness within that number?

Yes. Overall, our community college sales were down in the quarter more significant decrease then the other categories of stores. Enrollment at the community colleges and obviously as you can imagine, a community college doesn't benefit from the strong sales that we have with graduation, the True Spirit in, all the strong general merchandise and apparel for the programs that we are doing in our State and private schools. The traditional community college does not have that type of attraction.

Okay. That's helpful. Thanks a lot.

[Operator Instructions]

Excuse me, Barry comment in the question, bring up an interesting point, really which is kind of the demographic of college students and how that is really shifted, especially with the economy and community colleges. And I think one of the interesting things about that is, there is a press release we put out on Eastern Gateway today. It talked about additional serving students at the two campus locations they have were also offering online courses to 5,000 union members. As unions look to retool the skill sets within their workforce and that type of thing, this is another -- this is kind of unique deal and then unique opportunity within this deal. And I think in the future for education that we offer to expand outside our footprint, and what we traditionally do into more skills base delivery. I'm sorry, go ahead operator.

[Operator Instructions] We'll proceed to our next caller.

Yes. Hi there, it's Nick Dempsey from Barclays. I've have got two questions. First of all, we've seen several publishers Pearson getting involved in entering the rental markets. I guess they are dipping their toes in for now. But is there potential risk for you overtime and how does that change your relationship with the publishers? And my second question, I understand it's always difficult to speculate about a rough season sitting here at the end of August. I'm just wondering how your setup ahead of that rough season in terms of your thinking and making your textbook from publishers. Are you planning for significant same-store textbook declines in September again, in the way that you have managed your stock going into that period?

Well, I'll speak to Pearson, this is Patrick again. Pearson and rental, it's a very small selection of titles compared to what we offer the breadth of titles for renting our stores, the peer titles are less than 50 titles. We're in a pilot program with Pearson, we have churns that always governed this semester with them. And we'll reevaluate it at the end, if it's a profitable business truck for the [Indiscernible] continue it, but we're not going to be interested in participating and distributing their rental at a non-competitive or non-profitable type of arrangement. So, we'll evaluate as we go forward. We have -- most of our stores have one or two adoptions of these Pearson title. So, we kind of good feel forward after the fall rush. And as far as the question about our stock levels, we really don't have that information right now, it's ongoing right now. We are still getting a lot of adoption. We're in the middle of it and we won't have any of that type of information probably till sometime in October, when we pull all the information back from our stores.

And one thing I would add to that is with the addition of MBS and as Patrick mentioned before, we have better -- as we go forward, we have better visibility into and how we manage inventory, and we're controlling the wholesales as well as the retail buying. And so the process, for example, whereby textbooks are returned from BNC to MBS, et cetera, the efficiencies that we gained in managing are fairly significant.

As well as at the end of Q1 our inventory levels being down as we continue to look to be more efficient in our net purchases optimizing.

So, your inventory levels are down versus the same time last year, can you just explain that comment?

Yes, I think we talked about it. This is Barry Brover, in my comments while overall inventory levels are up, they are primarily up because in the inclusion of MBS. And our inventory levels in our BNC stores are down.

Got it.

We have no further questions in the queue at this time. I'll turn the conference back over to Barnes & Noble Education management for additional or closing remarks.

Thank you for joining us on today's call. Please note that our next scheduled financial release will be fiscal 2018 second quarter earnings on or about December 5th. Have a great day. Thank you.

That does conclude today's conference. Thank you for your participation. You may now disconnect.