McGraw-Hill’s Education Dump: About Time!

Shares of McGraw-Hill (NYSE:MHP) traded up Monday and Tuesday after the publishing company announced that it sold its floundering education business to Apollo Global Management (NYSE:APO) for about $2.5 million, as it transforms itself into a financial publishing company.

The deal by CEO Harold “Terry” McGraw III was years overdue, and it raises the next question: Will he sell the rest of the business that was founded by his great-grandfather in 1888?

Terry McGraw deserves credit for not letting sentiment cloud his business judgment. In 2009, he sold BusinessWeek — which his family had owned for more than eight decades — to Bloomberg for $5 million plus the assumption of about $32 million in liabilities. Two years later, investors such as Jana Partners first pushed the idea of splitting up the company. The case to shed the company’s education business was even stronger than the one to sell BusinessWeek.

State and local governments have slashed education spending since the start of the Great Recession; areas such as new textbook purchases have been hit especially hard. During the last quarter, McGraw-Hill Education reported that adjusted operating profit fell 15% to $268 million in the third quarter because of a weakness in the K-12 market. Revenue plunged 11% to $836 million.

The outlook for the sector will continue to be difficult for some time, even though states are starting to ratchet up spending as the economy rebounds.

From a report by the Center on Budget and Policy Priorities:

“Elementary and high schools are receiving less state funding in the 2012-13 school year than they did last year in 26 states, and in 35 states school funding now stands below 2008 levels — often far below. Some states are beginning to restore their school funding over the past year, but those restorations are, for the most part, far from sufficient to make up for cuts in past years. As a result, school funding remains well below pre-recession levels. Thirty-five states are providing less funding per student than they did five years ago. Seventeen states have cut per-student funding by more than 10 percent from 2008 level.”

McGraw-Hill’s education business also was being hurt by a decline in the for-profit education sector caused by a government crackdown on unscrupulous lending practices and a decline in the traditional population of college-aged students. Moreover, demand job training likely will wane as the economy continues to rebound.

However, MHP’s pathway to growth following the sale is not a sure thing.

For one thing, the power of Standard & Poor’s and other ratings agencies will continue to be attacked. Last year, the service stuck its neck out and took away the United States’ AAA credit rating — a move that fiercely criticized by top officials including Treasury Secretary Timothy Geithner. The Associated Press, though, pointed out that the downgrade, which was not matched by its competitors, was a non-event.

“It is difficult to imagine a more decisive repudiation of S&P’s warning that the U.S. government might not be able to pay its bills.”

Don’t expect Terry McGraw’s moving and shaking to be done once the Apollo deal is completed.

During the last quarter, the company that will be known as McGraw-Hill Financial posted revenue of $1.1 billion in the last quarter amid operating profit of $402 million, fueled by double-digit gains in Standard & Poors and the S&P Capital IQ and S&P Indices.

With a $14 billion market capitalization, McGraw-Hill might be a big company, but compared with other media conglomerates, the New York-based firm is on the small side, with firms like Time Warner (NYSE:TWX) standing at more than twice its size. McGraw-Hill probably will look for bolt-on acquisitions of smaller financial websites, though it might find itself a buyout target as well.

Bloomberg LP, the media empire founded by New York City Mayor Mike Bloomberg, and News Corp’s (NASDAQ:NWSA) newspaper publishing business — which includes Dow Jones, the parent of the Wall Street Journal — make sense as merger partners for McGraw-Hill.

Bloomberg reportedly earns about $8 billion in annual revenue. The closely held company has expanded its product offerings through its $990 million acquisition of trade publisher BNA in 2011. Bloomberg Industries, which was launched earlier this year, offers research on more than 100 different industries.

Dow Jones’ offerings include Factiva, a research tool, and a plethora of specialized trade publications on topics such as risk and compliance, along with Dow Jones Newswires.

Jonathan Berr was a former Bloomberg News reporter. As of this writing, he did not hold a position in any of the aforementioned securities. Follow him on Twitter@jdberr.

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