Please ensure Javascript is enabled for purposes of website accessibility

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

By Robert Hanley – Jan 14, 2014 at 2:01PM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

After a quick bankruptcy, publisher Houghton Mifflin Harcourt is back in the public markets with a renewed focus on education. Should investors take a bite?

Publisher Houghton Mifflin Harcourt (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 (PSO 0.25%).  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.

Fool contributor Robert Hanley owns shares of Barnes & Noble. The Motley Fool owns shares of Barnes & Noble. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Houghton Mifflin Harcourt Stock Quote
Houghton Mifflin Harcourt
HMHC
Apple Stock Quote
Apple
AAPL
$148.11 (-1.96%) $-2.96
Amazon Stock Quote
Amazon
AMZN
$93.41 (-0.77%) $0.72
Barnes & Noble Stock Quote
Barnes & Noble
BKS
Pearson Stock Quote
Pearson
PSO
$11.82 (0.25%) $0.03

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
356%
 
S&P 500 Returns
118%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 11/27/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.