Should You Bet on a New Day at Publisher Houghton Mifflin Harcourt?

Publisher Houghton Mifflin Harcourt (NASDAQ: HMHC  ) has had a decent reception in its return to the public markets, with a solid gain since its November 2013 initial public offering. The company was a victim of the changes sweeping the book-publishing business, including a shift to digital distribution delivered via e-readers and tablets, which has generally led to lower product pricing and profit compression for publishers. 

After a trip through bankruptcy court in 2012, Houghton Mifflin Harcourt has reemerged more focused and lighter, having rid itself of close to $3 billion in debt. So, is it a worthwhile play for investors?

What's the value?
While Houghton Mifflin Harcourt owns a niche trade-publishing business, with rights to strong sellers like The Lord of the Rings and the Curious George children's series, it gets roughly 88% of its revenue from the education sector, thanks to its 2007 purchase of major supplier Harcourt Education Group. 

Despite intermittent funding challenges, education is a stable business, generating $30 billion in domestic sales for product and services suppliers in 2011, according to the Department of Education. It is also expected to grow over the long term, as U.S. student enrollments are projected to hit 58 million in 2021 compared to 55 million in 2010.

In fiscal year 2013, Houghton Mifflin Harcourt finally found some top-line growth, with revenue up 7.6%, reversing course from a four-year string of annual declines. The company benefited from big education-contract wins in key high-population markets, like Florida and New York, while also gaining from selective acquisitions in its trade-publishing arm, especially in the always-popular cookbook area. 

More important, Houghton Mifflin Harcourt's adjusted profitability continued to improve slightly, primarily due to its ongoing cost-savings plans that have cut significant fat from its sales and marketing workforce.

On the downside, though, Houghton Mifflin Harcourt's cash flow generation remains weak and is currently unable to fund the heavy, up-front capital expenditures necessary to create content for its education and trade-publishing segments.  In addition, the company's primary focus on the K-12 education sector is a bit risky, putting pressure on it to win contracts in key school districts, especially in so-called adoption states, like California, Texas, and Florida, where local school districts' purchasing activities follow the directives of the state school board.

A better way to go
As such, investors may want to look for an industry player with a more diversified business mix in education, like Pearson (NYSE: PSO  ) .  While the company has a major position in the global K-12 education sector, Pearson also has built a strong franchise in the higher-education sector, including its eCollege unit that partners with colleges to provide online-course capabilities. 

Unlike Houghton Mifflin Harcourt, Pearson maintains a solid balance sheet that allows it to take advantage of opportunities, evidenced by its purchase of EmbanetCompass in late 2012 for $650 million, a transaction that increased its capabilities as a services partner to online graduate-program providers.

In FY 2013, Pearson has managed to generate top-line growth, up roughly 4%, though its results were negatively affected by a continued shift away from physical textbook sales. The company's business diversification efforts continue to pay dividends, though, as its MyLab online learning assistance and assessment unit reported rising registrations, ending the period with nearly 10 million users. Pearson also benefited from continued growth in other areas of its empire, including at its FT Group unit, publisher of the Financial Times and The Economist, where its paid subscriber base rose to a record 629,000, up 5%.

Pearson's greatest strength, though, may be its ability to engage in continuous process-improvement initiatives in response to a changing industry environment. The process sometimes forges unexpected results, including a surprising late 2012 investment in bookstore chain Barnes & Noble's struggling Nook Media unit. 

Despite a digital-content library of roughly 3 million books, Nook has been unable to beat back the dominance of Apple's iPad and Amazon's Kindle franchises in the tablet and e-reader categories, respectively, resulting in declines in device and content sales during the current fiscal year. However, Pearson likely sees an ability to bundle the Nook device platform in its product sales to customers in the education arena, thereby differentiating itself from its competitors.

The bottom line
Houghton Mifflin Harcourt is back, although it seems to need some further rightsizing of its operating structure in order to earn solid financial returns in a digital-publishing world. It also probably needs to change its mind-set from being a distributor of learning materials to being an enabler of learning outcomes, much the way that Pearson has done.  As such, investors should watch things unfold at Houghton Mifflin Harcourt from the sidelines.

1 stock you should make a play on now
There's a huge difference between a good stock and a stock that can make you rich. The Motley Fool's chief investment officer has selected his No. 1 stock for 2014, and it's one of those stocks that could make you rich. You can find out which stock it is in the special free report "The Motley Fool's Top Stock for 2014." Just click here to access the report and find out the name of this under-the-radar company.


Read/Post Comments (0) | Recommend This Article (0)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

Be the first one to comment on this article.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 2791156, ~/Articles/ArticleHandler.aspx, 11/26/2014 1:55:57 PM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement