The three companies that are publicly listed are currently in relatively good shape. Pearson and, to a lesser extent RELX, have prudent Net Debt/EBITDA ratios (1.3x and 2.5x, respectively, at December 31st, 2019); Wiley sits exactly midway in between Pearson and RELX at 1.8x.
Of course, all these ratios are likely to deteriorate during the course of 2020. However, these companies have all elected to reduce some of their programs to return cash to shareholders by suspending stock buybacks, and this measure will provide some additional resources.
Finally, with relatively healthy balance sheets, all these companies can tap capital markets to raise additional debt and – as a measure of last resort – additional equity. As a rule, investors respond negatively to being “diluted” through the issuance of new shares, because the same amount of earnings has to be divided up among more shares and because their shares count less when voting in the Annual General Meeting (AGM). Hence, raising new equity is viewed as less attractive than adding debt (as long as debt does not become excessive) and – as we said earlier – something to be done in exceptional circumstances only.
Companies Fully or Partially Owned by PE
The companies that are fully or partially owned by private equity (PE) companies (Springer Nature Group (SNG), McGraw-Hill Education and Cengage), on the other hand, all have significant debt.
SNG is in the best position among the three. It still has substantial debt (it had €3.0 billion at the end of 2017, and we estimate that it should have generated at least €1.0 billion in cash since then, reducing its debt to about €2.0 billion) and an estimated EBITDA of €600/620 million (implying a Net Debt/EBITDA ratio of 3.2x–3.3x, if our debt estimates are correct). Cash conservation has prevented the company from embarking on acquisitions to strengthen its data analytics offerings. Its debt, however, is rated B+ by S&P, which means it is not viewed as investment grade (and it would need four upgrades to reach the BBB- category, which is the lowest investment grade category). The greatest disappointment for SNG is the highly likely postponement of its IPO, which was expected to take place sometime in the spring of 2020. With current market conditions, there is little hope that this IPO will go ahead on schedule.
McGraw-Hill and Cengage stand in very different territory compared to SNG. Cengage, on March 31st, 2019, had a Net Debt/EBITDA ratio of 6x under the most generous definition of EBITDA, and 8.1x when pre-publication costs were added back to expenditures (pre-publication costs are those expenses incurred in preparing new titles before they are ready for release – they can be lowered for some period of time but not eliminated altogether, for competitive reasons). McGraw-Hill Education had a Net Debt/EBITDA ratio of 5.1x on December 31st, 2019. The two companies have much lower debt ratings than SNG: S&P rates both companies CCC, eight notches below investment grade. Unsurprisingly, the yields on the two companies’ bonds spiked in the aftermath of the failed merger. In mid-February, before the pandemic started to affect the financial markets, the yield on McGraw-Hill Education and Cengage binds stood at about 9 and 10% respectively. As of March 20th, when the pandemic was factored in by financial markets, but the merger had not failed yet, yields stood at 15.3% and 18.5% for McGraw-Hill and Cengage. By early May, after the merger was abandoned, yields had risen to 29% and 37% respectively, to then decrease again as financial markets recovered. As of June 25th, yields on McGraw-Hill Education and Cengage stand at about 19 and 20% respectively, still above the yield before the merger failed. A rise in bond yields is typically a reflection of higher concerns about a possible default on the bonds.
