McGraw-Hill Education / Cengage Learning Merger Is No More

Author

Phil Hill
May 04, 2020

In a long-rumored move, McGraw-Hill Education and Cengage Learning have called off their planned merger. Officially, the reason is that the Department of Justice (DOJ) had required more divestitures of titles than either party had assumed going into the “merger of equals.” From the press release:

The decision was unanimously approved by the Boards of Directors of McGraw-Hill and Cengage. The Termination Agreement foresees no payment of a break fee on either side.

In a statement, Simon Allen, CEO of McGraw-Hill said: “Because the required divestitures would have made the merger uneconomical, McGraw-Hill and Cengage have decided to terminate the merger agreement. This will allow each of us to focus on our respective stand-alone strategies for the benefit of our owners, employees, customers and other stakeholders.

It was one year ago that McGraw-Hill and Cengage announced their agreement to combine the second and third-largest global course materials providers. Had the plan gone through, and had COVID-19 not changed the education landscape, the combined company was planned to have roughly $3.2 billion in revenue, second only to Pearson’s $3.9 billion.

OER Impact

Based on Inside Higher Ed reporting from mid February, the DOJ was taking a tougher line than expected.

Since Cengage and McGraw-Hill Education have so many competing textbook titles, it was anticipated that they would be required to sell a large proportion of them. The Justice Department is rumored to have asked the publishers to make a divestiture worth around $175 million — the upper limit of what the companies stated they were prepared to do in their merger agreement.

As the publishers’ portfolios overlap significantly and include some 44,000 titles, figuring out which products to keep and which to sell is not a straightforward process. These divestiture decisions are thought to be further complicated by the fact that many of the publishers’ most popular textbook titles are linked to proprietary digital learning platforms and tools, which may have to be sold or leased to the publishers’ competitors in order to comply with the Justice Department’s request, sources told Inside Higher Ed.

It appears that Cengage, in particular, had assumed that Open Educational Resources (OER) would play a larger role in avoiding such a divestiture. 1 Cengage launched OpenNow, an OER services model, in 2017, one year after publishing a report estimating that OER would increase to 12% of the US higher education course materials market by 2021. I have heard that the company also thought that the DOJ would see the growth of OER and changing business models around OER as a sign that the merger could be approved with minimal divestitures.

Role of Private Equity

As Inside Higher Ed also reported, divestiture was not the only problem.

As both McGraw-Hill Education and Cengage recently have laid off hundreds of employees in anticipation of merging, questions have arisen about how day-to-day operations at the publishers will be impacted if the merger continues to be delayed or perhaps even abandoned. A slimmed-down staff may look good to investors, but it’s difficult to see how it will benefit customers. In the short term, it is anticipated that the publishers will stop developing new products or making large investments.

On The Layoff, an anonymous discussion board for rumored company layoffs, some commenters theorized that it would be in McGraw-Hill Education’s interest to delay the merger given Cengage’s relatively weaker financial position. The merger was conceived as a merger of equals, but perhaps it could turn into a takeover, they suggested.

I suspect that the financial status was as big of an issue as the actual DOJ divestitures. The agreement had been set up as nominally a “merger of equals”. McGraw-Hill was larger and in a stronger financial position than Cengage last year, and since that time this disparity has widened, even though Cengage had taken larger bets with OER (OpenNow) and subscription models (Unlimited).

The Wall Street Journal described the financial ownership last year in its reporting.

Cengage was known as Thomson Learning before a 2007 sale to a group of private-equity firms including Apax Partners LLP. A heavy debt load combined with increasing use of online texts and the popularity of textbook rentals led the company to file for bankruptcy in 2013. It emerged the following year with an increased focus on its digital business. In addition to Apax, Cengage is backed by private-equity firms KKR & Co. and Searchlight Capital Partners LP.

Apollo Global Management LLC agreed to buy McGraw-Hill Cos.’ education division in 2012, ending a plan by the publishing giant to take the unit public as part of splitting its textbook business from its financial businesses, now known as S&P Global Inc. Apax, which was the majority owner of Cengage at the time, had also bid on the business.

It is worth noting the timing of the merger cancellation, coming roughly one month after the end of the first quarter of 2020. Both companies would have recently completed their financial reporting, and the results were likely a major influence on finalizing the decision.

Role of Management

The termination was not the only news today. McGraw-Hill Education announced that Simon Allen, who had been its interim CEO since October 2019, was named the company’s official CEO. According to multiple comments on Glassdoor and TheLayoff, Allen had told the sales team since January that the deal would likely be terminated and that the company should prepare for a standalone future. Michael Hansen, current CEO of Cengage, had been named as the future CEO of the combined company if the deal had been consummated. Becoming an official CEO of McGraw-Hill Education seems a better deal than just being an interim caretaker CEO.

Looking Forward

Now that the deal is off, the question is what to watch for in the future. That topic can be handled in a future post, but there are several observations to consider.

  • The world has changed with COVID-19, and most prior financial guidance has been thrown out the window. Clearly both McGraw-Hill and Cengage have internal forecasts on the impact of the COVID responses.

  • The layoffs at both McGraw-Hill and Cengage over the past few months might have improved finances, but there has to be an impact on capacity to further develop platforms and learning analytics capabilities as both companies seek to more fully migrate to digital content.

  • The 2013 Cengage bankruptcy is important in this case, as it limits Cengage’s ability to manage its debt moving forward.

  • My colleague Jeanette Wiseman, who mistakenly thinks most people understand the importance of certain observations in the same way that she does, pointed out that two very large publishers now know a lot about each other. Their finances, go-to-market plans, etc.

  • It is interesting that there is no break-up fee, which would have been hundreds of millions of dollars if not mutually agreed upon. You can either believe the press release that this was a completely mutual decision, or you can believe that there was some intense pressure in the background to get Cengage to agree to this term.

  • It is worth noting (again from Jeanette) that the press release was put out by McGraw-Hill – it was not a joint release. Cengage put out a release not directly announcing the termination of the deal, but rather their commitment to student affordability moving forward. Furthermore, the joint website betterlearningtogether.com, created last year (and viewable from archive.org), has been put behind a login.

Disclosure: I have had several paid keynote sessions at OER and bookstore association events, and Lumen Learning is a client of MindWires. McGraw-Hill is a past client of MindWires.

1 Disclosure: I have had several paid keynote sessions at OER and bookstore association events, and Lumen Learning is a client of MindWires. McGraw-Hill is a past client of MindWires.