School's out for the summer, but a for-profit educator's work is never done. Educational software provider Plato Learning (NASDAQ:TUTR) reports its fiscal Q3 2006 earnings on Thursday.

What analysts say:

  • Buy, sell, or waffle? Plato's six analyst rankings produce a mixed message, with three buys, two holds, and one sell.
  • Revenues. On average, the analysts expect Plato's sales to come in 16% lower than last year, at $26.2 million.
  • Earnings. Last year's breakeven results are expected to give way to a $0.04-per-share loss.

What management says:
With a name like Plato, you'd expect this company's public comments to make more sense. In last quarter's earnings report, the firm reported a 36% year-over-year decline in sales and a near doubling of its net loss. Plato argued that it was combating the decline in profits by implementing "cost reduction initiatives, primarily in sales and marketing." As for the decline in revenues, though, CEO Mike Morache noted that "we have also focused more resources on support of the sales process, marketing programs and training," with the aim of achieving better "order growth" for the second half of the year.

So which is it: Are marketing costs falling to preserve profits, or rising to drive growth? The answer may be both. On one hand, sales and marketing expenditures decreased 28% year over year in Q2 (and fell about 1% sequentially from their Q1 level). On the other hand, Plato seemed to promise a reversal of this trend in the second half. Thursday's news will tell whether that happened, and if so, whether the rise in sales justified the additional spending.

What management does:
Plato's margins over the past 18 months have mainly fallen. Rolling gross and operating margins rose briefly six months ago, but then headed right back down in Q2. But the news isn't all bad. The net margins, which you see getting very ugly three quarters back, were made so by $16 million in restructuring and asset impairment costs incurred during fiscal Q4 2005. Those costs appear to have been truly "one-time," and subsequent restructuring charges have been minimal.

Margins %

1/05

4/05

7/05

10/05

1/06

4/06

Gross

62.3

61.4

58.1

57.6

59.9

58.7

Op.

(0.6)

0.1

(5.2)

(6.7)

(2.8)

(5.8)

Net

(3.4)

(3.2)

(8.9)

(22.7)

(17.0)

(21.5)
All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ended in the named months.

One Fool says:
Looking forward, Plato seems to be caught up in a trend that we've seen at any number of companies that used to get most of their money up front, but are now switching to, as Plato calls it, "subscription license products, for which revenue is recognized over time, rather than perpetual license products, for which revenue is recognized up front upon delivery." (See, for example, such diverse service providers as Synopsys (NASDAQ:SNPS) and Pegasystems (NASDAQ:PEGA).)

As a result, although the firm promised that a strong second half would result in orders remaining roughly flat this year in comparison to 2005, the revenue recognized from those orders will be a while in coming -- making sales look pretty bad in comparison to last year. That's going to make it difficult to get a read on how well the business is actually doing when Thursday's report comes out, so pay special attention to how much of Plato's Q3 revenues is derived from "subscriptions," which will bring recurring revenue streams in future quarters, and how much is from "perpetual licenses," where Plato gets the money up front. The more sales lean toward the former, the uglier Thursday's results will look. But the more they lean toward toward the latter, the fewer revenue streams Plato will have coming to it in future quarters.

Competitors:

  • LeapFrog (NYSE:LF)
  • McGraw-Hill (NYSE:MHP)
  • Pearson (NYSE:PSO)
  • Scholastic (NASDAQ:SCHL)

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Fool contributor Rich Smith does not own shares of any company named above. Take a free 30-day trial of any one of the Fool's newsletters by clicking here. The Fool has a full disclosure policy.