Cengage and McGraw-Hill Education have terminated their merger efforts, marking the end of a contested and protracted plan first announced a year ago.
The decision, announced this morning, was “unanimously approved” by the boards of directors of both companies. Neither party expects to owe any deal termination fees to each other.
On a conference call, Cengage CEO Michael Hansen attributed the cancellation to a lengthy regulatory review process with the U.S. Department of Justice and terms that would have forced the company to sell off some of its course assets, effectively rendering the transaction “not sensible.”
Had the merger gone through, it would have created the second largest U.S. textbook publisher, worth about $3 billion. The two companies together offer about 44,000 textbook titles, and would operate under one brand, McGraw Hill, with Hansen at the helm as CEO.
But the prospect of combining the second- and third-biggest U.S. publishers raised concerns that the company would have an outsized impact on the higher education textbook market, effectively reducing the competition and choice for students. Last August, the Scholarly Publishing and Academic Resources Coalition (SPARC) filed a brief to the U.S. Department of Justice, detailing concerns over how the merger could effectively create a duopoly in the market (with Pearson as the other major player), and a monopoly over student data.
Earlier this year, U.S. lawmakers published letters urging the Department of Justice to closely scrutinize the proposal based on those arguments.
In their analysis of the textbook market, DOJ officials adopted a “narrow” definition that did not include other course material options available to students, including second-hand books, rentals and open educational resources, according to Hansen. Taking those resources into account would have downplayed fears that the merger would reduce competition, the company has argued.
The DOJ’s approach appears consistent with how regulatory officials have previously defined the textbook market as they reviewed other textbook mergers, according to Nicole Allen, director of open education and SPARC. In a previous deal (also involving Cengage), regulatory officials considered each course as its own product market, and examined what market share the combined entity would command.
In order to satisfy antitrust concerns, the Department of Justice asked Cengage to sell off some of its textbooks for higher-ed courses. “The list of titles to be divested was long and growing as a result of the investigation,” Hansen said. He did not elaborate how many titles were on the block. A source to Reuters suggested the number was on the order of “several dozen courses.”
The merger also ran into roadblocks in other countries where the companies claim a sizable business footprint. The U.K. Competition and Markets Authority expressed concerns in March that “the loss of competition brought about by the proposed merger could result in university textbooks costing more. The deal was also under review by government officials in Australia, Mexico and New Zealand.
These investigations pushed back the timetable for the consummation of the deal, which the companies initially hoped would close by March. The ongoing investigations extended the regulatory review through September.
“The cost and duration of the regulatory review far outweighed the financial benefit to the company and our customer,” said Hansen on the call. “We have no plan to pursue this acquisition under unfavorable terms.”
The COVID-19 pandemic also factored into Hansen’s decision to call off the deal, for which he said the company has already spent “too much” on legal fees and other efforts to satisfy lawmakers’ demands. The prolonged process would have incurred most costs at a moment when the company is trying to cut them as it braces for a downturn in business.
Among the savings measures it has already enacted are a 20 percent pay cut for many employees (Hansen is taking a 40 percent cut) for five months, and renegotiating contracts with its suppliers and distributors.
“We couldn’t afford to be distracted by a prolonged investigation where the salesforce is distracted” when they’re not sure if the titles will be divested, Hansen added.
For the full fiscal year that ends on March 31, 2020, the company is projecting that its adjusted cash revenue will reach $1.35 billion, down 7 percent from the previous year. Hansen said his team is keenly aware of “the real near-term danger that higher education enrollment in the fall will be significantly down from the prior year.” A recent market analysis estimates that U.S. enrollment could drop as much as 20 percent.
In a separate announcement, McGraw-Hill said that Simon Allen, who was appointed interim CEO in October 2019, will now assume that position in full.
Among the hopes that company executives expressed about the merger was an acceleration of digital subscriptions, whereby students pay one price to access all titles, rather than the established practice of paying for course materials a la carte. Such a model, they claimed, would make textbooks more affordable.
Hansen says the case for that model is stronger than ever. On March 16, Cengage made its digital subscription available for free to all students through the end of the school year, and says that more than 290,000 students have taken up on the offer. The termination of the merger “lets us get back to focusing on the things we can control.”
Should another merger opportunity of this nature emerge, Hansen says he is less optimistic that it will be successful. “I think this kills the dream for a little bit. The regulatory authorities have spoken, and that’s the reality you have to accept.”