What is going to happen to Pearson, the former blue chip text book publisher, which has been struggling for years to reinvent itself for the new digital era? The question is prompted by last Friday’s RNS announcement that Lindsell Train, Pearson’s biggest and loyalest shareholder, has begun to run down its stake.
Between 2017 and 2020 Lindsell Train had more than doubled its stake in Pearson, and Nick Train (of Lindsell Train), one of the City’s smartest fund managers, has stuck by the company through thick and thin as the company tried to transform itself from a traditional printed text book company and into the world’s leading digital learning company.
Andy Bird, an ex-Disney exec who took over as Pearson’s ceo in October 2020, is hoping to do for education what Spotify did for music and Netflix for films. He notes that global learning is a vast and growing market currently worth around £5trillion, and only 3% is digital.
For years the traditional education textbook market was dominated by three players – McGraw-Hill Education, Thomson Learning and Pearson. The first two have been swallowed up by private equity investors. Pearson, the market leader, has occasionally been touted as a potential takeover target because of its failure to stem the decline in its core US textbook business which triggered seven profit warnings in as many years as new and nimbler competitors moved onto its education patch.
The key to Bird’s turnaround strategy is Pearson Plus, a new mobile app which allows students to read Pearson’s textbooks on line for a monthly subscription fee. Bird calls it Pearson’s “flagship education product” which will “fundamentally change the way students access textbooks”.
However, Pearson faces serious challenges from newcomers such as Chegg, a US listed online learning company. In terms of revenues Pearson is eight times the size of Chegg but its margins are a fraction of Chegg’s and the latter’s market capitalisation is now 40% bigger than Pearson’s.
At Pearson’s current share price of around 770p, it is selling on 23 times 2021 earnings and offers a prospective yield of 2.6%. The question for investors is whether Pearson’s long overdue recovery is finally starting to happen, which could trigger a substantial rerating of its shares, or whether it has come too late to the digital game and forfeited its dominant market position - the key to its past superior profitability.
As a long-term shareholder in Pearson (including subscribing at £10 a share to Pearson’s £1.7bn rights issue in 2000!!), and no expert in the US education business, my continuing holding of the company’s shares has been rather naively underpinned by a couple of things – Pearson’s seemingly well qualified board of non-exec directors, who own £3m of shares, and the continued loyalty of its biggest shareholders. Lindsell Train, Schroders and Silchester control just under a third of the equity worth £1.8bn.
Nick Train, who is a long term buy and hold investor, has said in the past that Pearson could well turn out to be one of his rare investing mistakes. His firm’s decision to start trimming its stake suggests that one of Pearson’s loyalest shareholders may be starting to lose faith in the company’s recovery prospects.
About a year ago I was unnerved to read a comment by Malcolm MacColl, Baillie Gifford’s new joint senior partner who also manages Monks Investment Trust, saying that companies like Pearson which have served the higher education market over the past couple of centuries are now just as vulnerable to disruption as record shops and video rental stores were at the turn of the millennium.
He may be talking his own book, since Baillie Gifford is Chegg’s biggest shareholder with a 13.1% stake. But the combination of Baillie Gifford’s backing of a successful competitor like Chegg, and Lindsell Train starting to trim its stake in Pearson, is undermining my confidence for remaining a long-term Pearson shareholder.