# Supreme Court Deals A Blow To John Wiley & Sons' Margins

Last August, Supap Kirtsaeng lost his appeal of a \$600,000 judgment against him for legally buying 632 of Wiley's textbooks in Thailand, importing those books to the U.S., and selling them for \$37,000, making around a 10% profit. Yesterday, the Supreme Court overturned that ruling, clearing the way for the importation of cheap textbooks to the U.S. What does this mean for Wiley's margins going forward?

To figure this out, I took a look at Wiley's FY13 -3Q-10Q.

I tried to separate out revenue over the last 9 months from printed books sold in the U.S. by multiplying the fraction of total revenue from the U.S. times the revenue from books for each business segment: Scientific, Technical, Medical and Scholarly (STMS), Global Education (GEd), and Professional Development (PD). This gave the revenue for the "books america" line, which represents about 25% of the total revenue for Wiley.

 In thousands STMS y/y pd y/y ged y/y totals Total revenue 726,679 -3% 316,360 1% 271,885 3% 1,314,924 Book revenue 126,409 -3% 225,569 -5% 159,908 -12% 511,886 % Books 17% 71% 59% 39% Americas rev. 279,000 -1% 250,200 0% 185,300 -4% 714,500 % Americas 38% 79% 68% 54% Books America 48,533 178,396 108,983 335,913 % Books america 7% 56% 40% 26% Gross Margin 73% 63% 68% Gross Profit 35,478 113,103 74,000 222,581 Revised Margins 37% 32% 34% Revised Gross 17739 56552 37000 111,290 Total Gross 916332 Revised Gross 805,042 EBT 136,274 Revised EBT 24,984 P/E 12.43 Revised P/E 67.80
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Next, I wanted to simulate what would happen to Wiley's earnings if the books sold in the U.S. sold for the international price. Supap Kirtsaeng sold his books for \$58 a piece, and a quick search on eBay (NASDAQ:EBAY) confirms this is a good estimate. A typical U.S. textbook sells for at least twice that price, around \$120. Thus, I estimated that replacing Wiley's current U.S. prices with international prices would cut Wiley's gross margins by half. This is perhaps something of a worst-case scenario, but for now I'm aiming for a rough estimate of the potential impact of international imports. As the table shows, the effect of a 50% margin drop on just the books sales lead to a drop in gross profits of \$111 million. Given the same cost structure, this would in turn drop Wiley's net income over the last 9 months from \$136 million to \$25 million, increasing the p/e from 12.4 to 67.8. A relatively more likely 25% hit to gross margins would still bring the p/e ratio up to 21. Given that the current p/e of 12 is roughly in line with Wiley's competitors, the recent supreme court ruling could reasonably cause a 10-20% drop in the stock price in the near term to reflect the greater risk to Wiley's margins going forward.

Although Wiley is growing is revenues from digital media, these gains are not making up for the declining sales of printed books. Indeed, for the 9 months ended 1/31/2013, Wiley's net income dropped by 17% y/y. The recent court ruling will likely further accelerate Wiley's declining income from book sales, making it even harder for the company to maintain current income levels while adapting its business model for the digital age.

Disclosure: I have no positions in any stocks mentioned, but may initiate a short position in JW.A over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.