Cengage learning can Apax Partners salvage this buyout Harvard Case Solution & Analysis

Cengage learning can Apax Partners salvage this buyout Case Solution

What are the estimated returns on Strategy 1, assuming that the bankruptcy court follows absolute priority in settling the claims and Apax is able to exit its investment in Cengage at 7× adjusted EBITDA in 2018

Taking under consideration the information provided in the case as well as various assumptions, such as: Apax’s strategy of using 750 million dollars of its funds to buy exclusively senior debt trading at 78 percent of the company’s face value and assuming that the absolute priority is followed by the bankruptcy court and Apax use exit strategy in Cengage at 7*adjusted EBITDA for the year 2018; the estimated return on the strategy 527 percent, which is calculated by taking the values of the funds required to pay the senior debt of 750 million dollars, exit enterprise value of 4699.8 million dollars. The distributed value available for the senior creditors the senior debt of 750 million dollars is assumed to be exclusively paid to the senior creditors. Thus, if the company uses the strategy of paying exclusively to the senior creditors, the company would make itself enable to exit its investment in Cengage and the rate of return on the investment would become 527 percent.  The calculation can be seen in the Appendix A.

What are the estimated returns on Strategy 2 if absolute priority is violated, the court awards the junior debt holders $250 million in equity in the reorganized firm, and Apax can achieve the same exit in the previous question

In contradiction to the previous strategy;by assuming that the Apax’s strategy of using 750 million dollars of its funds to buy 25 percent of junior debt trading at 21 percent of the face value and using remaining funds to pay senior creditors and assuming that the absolute priority is followed by the bankruptcy court and Apax use exit strategy in Cengage at 7*adjusted EBITDA for the year 2018; the estimated return on the strategy 37 percent, which is calculated by taking the values of the funds required to pay the junior debts and senior debt of 187.5 million dollars and 3250.5 million dollars and the exit enterprise value of 4699.8 million dollars. The distributed value available for the senior creditors; the senior debt of 3438 million dollars is assumed to be exclusively paid to the senior creditors as well as the junior creditors. Thus, if the company uses the strategy of purchasing 21 percent of the junior debt, and the remaining value to senior creditors; the company would and able to exit its investment in Cengage, and the rate of return on the investment would be 37 percent.  The calculation can be seen in the Appendix B.

Do you believe that the returns on the debt investments are high enough to justify Apax proceeding with the purchase of Cengage debt? If not, how high a return (level of year-end 2018 adjusted EBITDA and exit multiple) would be needed to justify the investment? Why else might Apax proceed or not proceed with the debt investment

After analyzing the rate of return on the debt investment by assuming different scenarios which involve paying senior creditors and junior creditors differently;it is analyzed that the returns are high enough to justify the proceeding of Apax, with the purchase of debt of Cengage. It is because of the reason that the return on strategy of using 750 million dollars on paying exclusively senior creditor-sis 527 percent, and the rate of return on strategy of Apax of using 25 percent of junior creditors and remaining value to pay senior creditors,is 37 percent, which provides a strong foundation of investing in the company by purchasing Cengage debt. By-doing so, the company would be able to receive its seat as creditor at the negotiating table and to retain its ownership of Cengage after a debt for equity exchange. Furthermore, by using leverage; the company would be able to boost its return on capital and achieve favorable return on investment for the investors.

Conclusion

Cengage Learning was the valuable and a leading provider of the college textbooks as well as educational materials, which had filed for the bankruptcy. Apax Partners bought Cengage for 7.1 billion dollars in the frothy buyout market for the year 2007, and financed the deal of buyout with 5.6 billion dollars in debt.The advantages of debt investment includes retaining the ownership of Cengage after the debt to equity swap, reserve seat as a creditor at the negotiating table and substantial return on its investment.Whereas, the loss of investor‘s trust, dilution of the equity stake of Apax and investor’s dilemma of investing in company, causing it to file for bankruptcy, are the drawbacks of the debt investment strategy.

Only under the high range case; there would be enough vale to compensate the senior creditors in full and still have 566 million dollars to pay the junior creditors.Under the low range case and mid-range case; the company would not have enough vale to compensate the senior creditors in full. The rate of return of Apax’s strategy regarding the use of 750 million dollars of its funds to buy exclusively senior debt is 527 percent; whereas the Apax’s rate of return's-strategy of using 750 million dollars of its funds to buy 25 percent of junior debt and using remaining funds to pay senior creditors, is 37 percent.

Appendix A – Estimated returns

Appendix B – Estimated returns

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