McGraw Hill, Inc. (MH) Earnings Call Transcript & Summary

Thank you.

So McGraw Hill has 100 million plus paid curriculum licenses, 7.5 million plus users of its AI products. Can you talk about how that install base really shapes the company's AI strategy and how it creates opportunities to deepen engagements, improve outcomes, and ultimately change the incremental revenue.

So I think it's super important to understand education. I think a lot of people have this kind of misnomer, you just park a child or you park a student in front of a chat bot and you get a great outcome. The speech that we deliver, um, is some of the most highly regulated and politicized speech on the planet. What you put in front of a child is legislated right down to the zip code level, the language you're allowed to use, the science you're allowed to use. You know, we have to we serve Saudi Arabia, we serve Oregon, we serve Texas, we serve Florida. It is extraordinarily forceful. Most, I'll say, a politicized environment, which creates a huge regulatory moat in the K-12 space. These adoption cycles tend to be long, 5 to 7 years for a lot of the core, and so they're picking a partner to go along with the curriculum over a 5 to 7 year journey. And curriculum tends to be about 1 to 2 percent of the education dollar. And by that I mean the largest cost is teachers. And what you don't want is your teacher sitting up at night trying to make sure you're correcting a chat bot that's hallucinated or that they don't have a way to assess to see whether or not the child is actually grasping what's happening or not. So in the K-12 space, really deep, I'll call it regulatory moat. We are probably one of the largest curriculum providers in the world. We're in about 82% of all the school districts here in the U.S. We're one of the few that serves the Middle East. A lot of the Middle Eastern countries, in some cases, are serving as much as 50% of their curriculum. And then in Latin America, a really strong position. Then, as you get up into higher ed, um, there's a similar dynamic in the sense that the professor really wants to be able to have the trusted content to go along with what he's educating. Um, in a medical space, um, we just were talking about what we were doing in the agentic space, you need to have medical grade answers. And I'd like to say that in medicine, you need to be able to answer 99.9999% of the time with the exact right answer. That is extremely hard to get medical grade AI is what I'll say. It's equally important when you're teaching engineering. It's equally important when you're teaching accounting. It's equally important when you're teaching mathematics. It's equally important when you're teaching literacy. It's accuracy, quality of content, and then what I'll say is the local pedagogy or the local requirements is important. AI for us is um a huge opportunity for us. I like to talk about the fact that we have um one of the largest um I think we can safely say we have the largest subscriber base to education, like paid subscriber base. If you take a look at something like Duolingo, they have about 12 and a half million paid subscribers. I think Khan Academy I saw might have 35 million. We have over 100 million paid subscribers um to our content. And our goal is to expand the number of students and number of subjects we teach. And we think that there's just no end to the things you can teach for humanity and won't be. Um and then also the way that you teach. And so we have this strategy to be able to build AI tooling on top of the piece of the curriculum. So we're building, when you build an agentic tooling, you know, the four things that you must have in the agentic world is that you have to have content, you have to have context, you have to have an LLM, and you have to have tooling to make sure the whole thing works together. And so you'll see us, we're delivering some of those things today in packages like Sharpen or ALEKS, you know, that can help teach us student algebra or teach a student, be able to do prompting at night for the student. But you're also going to see us build an additional set of agentic services on top of each of those 100 million licenses.

And based on the adoption you've seen so far with AI, what what have you learned from adoption trends across students, instructors, and institutions, and which products and use cases are demonstrating the most revenue potential?

So first of all, you know, one of the things is trust is essential. What you just saw this past week where both Los Angeles and New York actually banned AI chat bots in the classroom. Um in LA's case, it's K-12. In New York, it's K through 9. There's not a lot of trust. We just did a survey that said, teachers about a couple thousand teachers that we surveyed said 81% will trust AI if it's embedded inside of the tooling that has already been improved. Outcomes matter, first and foremost. I talk a lot about the fact that the average school has over 2,400 learning tools and we're not getting the outcomes. And so increasingly, proof of outcomes in the pedagogy really, really matters. And so I've got to always start with that. Trust is the most important thing in implementing AI in education and I and we start from a pretty amazing position. The second is in this area of um what I call kind of the ontology of learning. When you teach a child literacy, you're teaching somewhere in the order of about 3,000 schools from kindergarten all the way up to 12th grade. You literally, I can tell you in the fifth grade on the third week, what the activity is going to be for that student. You literally lay down that fine of a grain. And you have thousands of these learning objectives that you have to layer on top of each other. When you teach something like Algebra I, you're teaching 400 skills in a particular semester or class. When you teach biology, it's about 4,000 skills. And then when you go into medicine, my son just graduated medical school, and I like to say that he graduated with 54,000 Anki note cards. So we think that there's about 54,000 things that you teach in medical school. Now, is the student on track or off track? How does a chat bot know that? We have this open learning record, um, and because we create the content, we also know what these learning objectives are. And you need to be able to have a source of proficiency, a true understanding of proficiency. You know, whether or not you are understanding 100 of the concepts in Algebra 1 or whether you're understanding all 300 and what your proficiency level. That's the second thing. So we've got a tool like ALEKS that each learner has about 2 to the 400th states when you're learning algebra. And with just 25 questions, we can tell you precisely what that learning proficiency is. So the ability to be able to have data and say on the on track or are they off track and students that are using ALEKS, you know, we're getting, you know, they're able to to achieve much higher levels of proficiency much more rapidly. And then we have a tool like Sharpen as an example. And Sharpen is this great example. It's like, think of it as Spotify for the professor. They can push playlists out to the students. And they're able to engage with that content at all hours of the night. Most of them are engaging, believe it or not, between 11 o'clock at night and 3 o'clock in the morning along with all of our tools, and that ability to be able to tie it back into the professor, because the next morning when the professor wakes up, they can see what kind of engagement there was, who's overly confident in their answers, and what are they searching for, and what should they be teaching. So tying it back to the teacher and giving the teacher the ability to be able to guide the classroom is really, really important.

You've previously discussed agentic as the next important step within your product strategy. What are your agentic capabilities today? Um, And what technical product or customer milestones do you think is required to move from the pilot phase to broader adoption across your user base?

So, agentic, if anyone doesn't know, is just having one AI model talk to another. It's like phoning a friend, like when you need an expert. McGraw Hill curates some of the largest collection of content in the world, like in the pharmacology space, in the biology space. We have some of the greatest authors in the world that are curating content in this space. And so we're putting agentic wrappers around our content. And so I describe it as that in the past, knowledge used to be like a library. You had to go and get it. And what it'll be like in the future app store, you know, where if you go into your cloud today, your OpenAI, you can open up and you go into connectors and you can find different connectors. You'll see us in there as one of the connectors. So if you want to really like get into biology 101, you know, we can help you do that. Or we can provide a complete closed um system, like a lot of K-12s um are requiring. That business model is really exciting for us because we think it's going to dramatically expand our TAM. You know, when I talked about, I recently had our Harrison's editors, which was like maybe the most successful medical textbook in the history of medicine. They were looking at it and they were grilling it with questions and the thing was just answering precisely. And it was using a fraction of the cost that it takes for large models. And I do believe like what we're seeing is kind of commoditization as you get open source models and lighter weight models, like we can couple together a 100 billion parameter model, you know, full Claude model, the largest Claude model, we can couple it together with our content and give these beautiful precise answers at a fraction of the cost. And so what you'll see us do is that we're coupling together different AI, we're making it much more affordable for education, we're making it much more precise, we're using the pedagogy, and we think that there's a couple different business models in this. We're in the pilot phase right now, so we've got, let's call it, over a dozen of some of the top universities in the U.S. and a couple around the world. We also have a completely non-education organization that actually is in the pharmaceutical space that has talked to us about using our content. So if you can imagine the different business models, sometimes you can do an upcharge, you know, to give MCP access, like 5 or 10%. Some cases you can do it by the question, which is what most of us pay for with the OpenAI that's in our pocket, or you can charge by the token. And so we're experimenting right now with a whole variety. The interesting thing is that when I talk to most universities they're just flooded with chat bots. And the problem they've got, like I talked to one university, said they have over 62 chat bots, and none of them have the content that the professors want. And we were the first university, or the first organization to approach the university and say, we'll join those chat bots with our MCP interface. And they said that's fantastic, because then both our professor and our student can trust the answers that are coming out of the chat bot. So, um, so we think there's going to be some good business models. We're purely in pilot phase right now. Um, We think there's going to be lots of great business models and actually TAM expansion for us.

Let's talk a little bit more about proprietary content because you're seeing a proliferation of general content AI models, some AI-native education content startups. What are the proprietary data points and content that really differentiate McGraw Hill and separate it from the AI competitive landscape?

So there's a number of things. I have to say this, and you're going to kind of laugh. When I say this for a lot of people. I've been in technology for most of my career, so I'm kind of surprised that I'm saying this. In the K-12 space, we print. Yes, we print. And if you see what's happening in the backlash against screen time, we're discovering that when you use a screen, you have something like 60-70% less dwell time. And as a result, you don't absorb as much. That's terrible for somebody with self-regulation. And so in the earlier grades, K through 5 and we're seeing this movement away from screens because you don't have a lot of self-regulation in that moment. And with print, you dwell, you absorb, and you get a better learning outcome. As you get more capabilities in the higher grades, you can introduce more AI. And that's really where we also have probably the largest population of learning outcomes and learners, where we're getting this constant feedback. We simply get more feedback from our AI tooling and the products that we're building than almost any other education company in the marketplace. So our ability to be able to iterate and say, into that ontology, somebody is on path or off path is important. We also have one of the only open learning records in the marketplace. And so this idea, all those proficiency scores that I talked about, the 1,000, the 400, the 4,000, we have we allow Pearson to import its assessments into us, NWEA from Houghton Mifflin, Renaissance. These are some of our competitors, and we import their data, and so we have this open learning record in addition to our own assessment. And so we also have this position that we think that we can win in the longitudinal learning record for the child, the same way there's a longitudinal health record. We think we're pretty well positioned. And then the last thing is our pace of innovation. You know, this past quarter I talked about the fact that we expanded margins again this quarter while doing a record of both tools and curriculum, which means we're getting faster in innovating on behalf of the student and teacher.

Let's switch gears and talk a little bit more about higher education. In higher ed, McGraw Hill has seen over a decade of market share gains. Can you talk about some of the key factors driving these share gains and how sustainable that is?

Well, we were private under Platinum's leadership. We actually kind of jumped the chasm. If any of you have ever read Innovators, roughly about 30% of students in higher ed wouldn't buy the textbook and I think a lot of us have this kind of misconception that textbooks are $800 for students. The reality is that we made this bet to drop the price and get it into every student's hands so that everybody could have the same learning experience. We did that from a pricing perspective and it was really important. We're at about 2,000 or so universities out of the 3,500 here in the U.S. and a significant number around the world. And we tend to add about another 100 or so universities. And when we add a university, it starts with 1 or 2 professors and quickly expands to 25 to 50. So we've got this really wonderful opportunity to go broader. But then we also made a bet on what we call evergreen. And I think that we can safely say we're one of the only companies, if not the only company, that does this, which is that we're constantly pushing new content. Um, I came out of the media world from Vimeo prior to this, and, you know, we kind of look at it as you have to be an always on publisher if you intend to keep up with human knowledge in the future. And so Evergreen, it's like taking an app update on your phone. I can literally, as a professor, say, I'll accept this into my syllabus, the content flows into the syllabus, into the assessments, and the professor will say, professors ready to teach. We push these out every 6 months, which is what professors want. They don't want us updating generally in quarter. We can if we need to. But that ability to have a lower price and then fresher content, more relevant content. And then the last thing is that our customer success team, some of our competitors are pulling their people out and we've actually invested in putting people in. So we have better service, we have a better product generally a lower price, um, while maintaining extraordinary trust in the brand and the content, the pedagogy.

Let's talk a little bit more about uh 1 point you mentioned just now, which is Evergreen. Uh, what titles have transitioned to Evergreen in your portfolio? And how do the renewal rates for those on Evergreen compare to those not on Evergreen?

So please don't make me repeat that or else we'll lose the whole audience. It's a lot. I mean, it's an extraordinary percentage of our higher ed titles are in the evergreen space. And it's everything from engineering to accounting, business. Universities want fresh case studies on a regular basis. You know, pharmacies want, pharmaceutical students want to be able to have the most recent trials, what's been successful, what hasn't. So, you know, we're moving to this model where more than almost everything that we publish, we want to try to keep as fresh as possible. So that's a really important element to it. I think the growth in that, when I think about where we go with content and our ability to be able to serve a large longer journey. There are so many professions that are now that are requiring continuous certification. And we look at things like the medical field where you get specializations and then continuing certifications. You're seeing in the legal space, you're seeing in the accounting space, this continual certification. And so when we think about Evergreen, we're starting to think broader about the TAM, our ability to be able to keep the right learning in front of the right student at the right time in their journey. In medicine, they call this precision education. And the American Medical Association has just launched about 12 pilots, because they know they need to be able to. Medical knowledge is doubling every 73 days right now. And so we have to keep the medical profession fresh, all levels of it. So we're looking at that as a big opportunity for us with Evergreen is to kind of stay with the learner throughout their entire journey.

Mhm. Makes sense. Um inclusive access is another key driver of higher ed. Can you talk a little bit about that and what the opportunity is ahead compared to the penetration you see currently?

Yeah, you know, as as mentioned, there's roughly 3,500 or so institutions in the U.S. And I think I get asked the question a lot, enrollment declines in the U.S., are they impacting you? And what I just heard me say was that as much as 30% of students didn't buy the book, but now with inclusive access they get the book. And so we feel like if there's a 1% or 2% enrollment decline that happens here in the U.S., we've got this ability to be able to reach more students as a result of inclusive access. And then we're only at about 2,000 out of the 3,500 institutions here in the U.S. We are a global company. We are serving a lot of universities around the world. The other element I think that's really important is that the university professors, or I'm sorry, presidents that I speak to, what's been happening with immigration here in the country is where fewer immigration students are coming here. And in Canada, what I'm seeing from universities, they're actually sending students of satellite campuses. So most universities are now saying, the students don't have to come to us, we're going to the students. And very frequently, they're taking us along with them. And so we're excited about the position we have in Latin America, we're excited in Southeast Asia, excited about the position that we have in the Middle East, Excited about the position that we have in India. And I think that inclusive access has this opportunity to touch even more of the world.

If we step back and look higher level but then switch gears to talk about the higher ed industry broadly, there are multiple drivers, of course, in their enrollments, which you mentioned, there's also institutional budgets, student affordability, how do you see these various trends converging uh to drive the overall demand environment for higher ed?