This month K-12 Newsletter talks with Baran Rosen, President of merger and acquisition advisory firm Whitestone Communications.
K-12: How has deal activity in K-12 education this year compared to previous years?
Rosen: Just in education, activity has actually been even with last year, which was a down year. So activity is still fairly modest.
K-12: What are your expectations for 2011? Are conditions getting better and do you expect more activity?
Rosen: Yes. We’re seeing it in our firm. There’s much more interest in transactions being done. Among the strategics, the three major players—Pearson, Houghton Mifflin Harcourt, and McGraw-Hill—one factor contributing to the lack of increase is that Houghton Mifflin Harcourt has been through a capital restructuring and has yet to start doing acquisitions, although they do indicate they will start again. McGraw-Hill has been basically on the sidelines. It did one small acquisition just recently having to do with the adult career space. Pearson has been the only one of the three that has been an active buyer, and they have been very active. But, in and of itself, Pearson has been unable to move the needle on the total number of transactions in the education field. But future plans by other players to resume or continue activity should help to move the pace higher. There was thinking at one time that Kaplan was going to become a big player in K- 12, but they seem to have backed away from that.
K-12: News Corp. just announced plans to buy Wireless Generation for $360 million. Is it surprising that News Corp. is suddenly determined to be a player in the K-12 market? They haven’t made noise like that before, have they?
Rosen: No. It is a surprise. News Corp. though has leaped before into new areas such as its purchase of My Space five years ago.
K-12: Wireless Generation represents the current allure of mobile devices. Everyone seems to be think that that’s where the future is. These are devices that students already have and that’s how they’re communicating. Do you see that as what might have attracted News Corp.?
Rosen: Mobile applications are seen as the future. Certainly, it’s considered the hottest area for potential growth.
K-12: In more general terms, how would you say the K-12 market is regarded these days as an M&A market? Is it easy to attract venture capital or is it hard? What is the perception of that market these days in the eyes of investors?
Rosen: Private equity funds look for situations of recurring revenue. Electronic information businesses are high on their list of businesses with good characteristics. If a company in the education field can develop a business model that has those characteristics, then there will be strong interest. For example, if you have an online assessment program, charge $15 a head and have a 95% renewal rate, that’s the perfect model. The extent to which you can have similar models in schools, the private equity people would be pretty excited.
K-12: I would guess that most of the smaller companies that are aspiring to make a splash in the market would offer digital products or services. Is that looked on favorably by investors?
Rosen: That’s where the investors see the growth opportunities. I don’t think we’re going to see many new startups in print curriculum. The focus of the startups is going to be technology, but the applications have to have efficacy. The applications just can’t be a neat idea; they have to prove that they do enhance education and can fit into curriculum guidelines.
K-12: Is there the perception of an old, print-oriented K-12 business and now a new digitaloriented business, and that there’s more interest in the new rather than the old in terms of acquisitions?
Rosen: Yes. The only interest in the old for acquisition is in terms of product fold-in. If a company is missing a certain grade level of material or focus, or wants to fill out the product line, that’s fine, but they don’t see that as a growth engine. The real growth is going to be online or in combinations of offline and online components. Strictly the print is not going to serve as a growth engine.
K-12: Do you think that Houghton Mifflin Harcourt will be looking for a big acquisition?
Rosen: I think they have the resources now to step up activity. I have a general impression that they are in a good position now to start doing acquisitions.
K-12: What about Scholastic?
Rosen: They appear to be most interested in acquiring companies that have a technology focus. They’ve done real well with READ 180, which has a technology component. I believe they’re looking more to technology-based businesses for growth. They definitely have the resources and they’re actively reviewing candidates.
K-12: What do you expect from School Specialty in the future?
Rosen: At this moment, I would think they will stay focused on their traditional businesses. Some of their acquisitions haven’t worked out as planned for them, so I think they’ll be more conservative in doing deals.
K-12: Haights Cross was a buyer over the years and then they tried to sell everything. But they recently made a small acquisition, Educational Tools. Did that surprise you?
Rosen: I knew Ron Schlosser had moved over there and I didn’t think he was meant to keep things status quo. In that sense, I was not surprised. I’m sure the owners want him to help drive the growth of the business. It sounds like it was a good fit for them.
K-12: What do you tell small companies and prospective sellers these days about what they can do to make their mark?
Rosen: I urge them to consider the extent to which they can become more technology driven that will add value to the business. I also tell them to develop product that has efficacy and that does improve education and not to develop something just for the sake of developing something that looks impressive. I urge them to have the research. You may look at a product or a technology that looks great to have, but teachers and school districts already have a lot of product, so companies have to offer them something that makes them say that this is better than what they have. Teachers have to see the potential the product has for improving student results. It really has to have a focus on the student.
K-12: Is there a certain revenue size that legitimizes a company and proves that it’s a sustainable business?
Rosen: I think $5 million is a kind of minimum that proves you have a business that has reached some form of critical mass. It has a proven product and has gotten enough interest. Large companies prefer to do larger deals. A billion-dollar company buying something with $5 million revenue doesn’t gain that much financial benefit but that size deal may fill in some strategic gap. They may see financial benefit if they have the resources or sales force to turn the $5 million business into a $50 million company. Generally, $5 million to $10 million counts as a proven concept level that shows a business has something worthy.
K-12: Has the post-secondary market been more active than K-12, or it is also in the doldrums recently?
Rosen: Until three months ago or so, it was a very strong area. It seemed like private equity funds were almost falling over themselves to buy post-secondary schools. Many of them wanted to have those in their portfolio. Off the top of my head, I would say that at least 50 private equity funds in the U.S. have post-secondary schools in their portfolios. It could be as much as 100. It has always been a popular thing and they’ve looked at it as a very safe business where government funding would always provide the revenue for the students. But that area has been hit hard by the government investigations. Post-secondary funding in now under a lot of pressure and the deal activity there is definitely going to slow up.
K-12: Do you see any game-changing developments in the near future?
Rosen: I think mobile education apps are going to be a major growth area. How are they going to be used for education and tutoring? In the college textbook market, the movement to e-book format is also another major trend. It may trickle down to the K-12 market.
K-12: Are people worried that even if they have that better mouse trap that there just aren’t enough funds around to enable the schools to pay for it?
Rosen: Schools are under pressure to perform better, and teachers need to prove that they’re doing a good job. So if schools see something that’s going to help them improve their students’ results in standardized tests, they’re open to considering anything that will help them in that area.
For information on Whitestone Communications, contact Baran Rosen at 646-723-9966; brosen@whitestone.communications.com.
