The Decline of College Textbook Publishing: Cengage Learning and McGraw-Hill

The Traditional Business Model

The college textbook market of the United States is mostly free of governmental regulation. Therefore, the prices of textbooks reflect the market forces of demand and supply. College students are on the demand side of the textbook market. About 19.9 million students attended American colleges and universities in 2019, which is higher than the enrollment of 15.3 million students in 2000 but lower than the enrollment peak of 21.0 million in 2010. Total enrollment is anticipated to rise to 20.5 million by 2027 (National Center for Educational Statistics, 2019). Also, textbooks are purchased by colleges, businesses, and government agencies.

Although college students are the primary demanders of textbooks, they do not select them. This is because academic custom assigns a faculty member (or a committee of faculty members) the right to choose items that are mandatory or suggested for their courses. Among the options that a faculty member has when adopting course materials are whether he or she requires or recommends a textbook; selects a textbook bundle that may include an accompanying test bank, auto grading, and auto gradable homework assignments; adopts a new edition of a textbook; or orders a custom-made book consisting of articles or chapters from other books, which are then custom bound by the college book store. Another alternative is digital (online) textbooks and supplements that faculty members may assign or recommend.

On the supply side, the college textbook market includes three stages: (a) publishing companies develop and produce textbooks, which they sell directly to college book stores but sometimes to wholesalers; (b) wholesalers distribute books to college bookstores; and (c) college bookstores sell new books and used books to students. Also, publishers rent digital textbooks directly to students.

The college textbook market is oligopolistic and is led by five publishers that account for more than 80% of the market’s sales—Pearson Education heads the list, followed by McGraw-Hill, Cengage Learning, McMillan, and John Wiley & Sons (Gale, 2017). Although barriers to entry into college textbook publishing are substantial, they are not insurmountable. Relatively small publishers, such as academic publishers, also participate in this market.

Traditionally, about 50% or more of a textbook’s sales occur in the first year following the book’s publication, after which sales decline sharply for the remainder of the edition. This is largely because of the used-book market that competes against newly issued books. The supply of used books emerges as students sell their textbooks to college book stores or to fellow students; it also emerges when faculty sell their complementary (review) copies of textbooks to representatives of used-book companies that visit campuses (Koch, 2014). However, the market is now moving away from this model. As such, the revenue is starting to become a recurring process rather than a 50% process in the first year, then very little revenue after that, as discussed below. Another part of the evolution of the textbook market involves the increased focus on principles books, which sell in large markets, and the abandonment of upper-level books to university presses, which sell in smaller markets.

The wholesale market for textbooks is also oligopolistic, and its main participants are College Bookstore of America, Nebraska Book Company, Barnes and Noble, and Follett. Besides dealing with newly printed textbooks, these wholesalers actively participate in the used-book market; they buy used books from students, faculty, and college book stores, and they resell them to other bookstores. Surveys of college students indicate that a typical student spends US$500–US$1,500 annually on course materials, and new editions of textbooks can cost US$200 or more (Benson-Armer et al., 2014).

The traditional business model of college textbook publishers relied on sales of relatively expensive, printed textbooks as a main source of revenue and profit. During 2006–2016, there was an 88% increase in the average price of new college textbooks while the overall rate of inflation, as measured by the consumer price index, rose about 20% (U.S. Department of Labor, Bureau of Labor Statistics, 2016). What has made textbooks so expensive? Here are a few factors.

By the 1990s, globalization was impacting America’s college textbook industry as smaller, independent publishers were acquired by huge multinational conglomerates. Five large publishers came to dominate the national market, while several middle-sized publishers operated in regional markets and produced books in particular subject areas. The smaller publishers were generally confined to producing supplementary materials. As the mega-conglomerates gained control of the publishing industry, formidable barriers to market entry were established. These conglomerates achieved greater control over market supply, which enhanced their price-making ability and resulted in higher priced books (Watt, 2007).

Moreover, many faculty members were not aware of the high prices of books that they assigned their students to read. Sales representatives of publishing companies did not voluntarily divulge prices to faculty; instead, they discussed a book’s features and ancillary items. Also, faculty resistance to high prices tended to be low because they did not have to buy books with their own money; that is, it was easy to assign a high-priced book as along as students were bearing the cost (Koch, 2006).

As for students, they often did not have the ability to find good alternatives to newly printed textbooks. Prior to the 1990s, the used-book market was not well developed and the internet was in its infancy, which meant that comparison textbook shopping at Amazon was not possible. Simply put, all of these factors contributed to a relatively inelastic demand for textbooks, thus enhancing the price-making ability of publishers. However, some students saved money by simply sharing books among themselves, thus reducing the number of books demanded as prices rose.

Moreover, faculty and students demand textbooks with more ancillary products such as PowerPoint slides, online homework and quizzes, and test banks. According to the U.S. Government Accountability Office (2013), although many factors affect textbook prices, increasing costs associated with producing more complex books and the development of ancillary products that accompany them were key reasons behind the rapid price increases of the early 2000s.

Competition From Used and Rental Textbooks Upsets the Traditional Business Model

Although McGraw-Hill, Cengage Learning, and other leading textbook publishers have historically used a business model based on relatively expensive, printed textbooks, the nature of the market has been changing. Many frugal students have become unwilling to pay high prices for textbooks; they stopped buying them even though the books were required by their professors. This resulted in publishers increasing prices to make up the difference, which ultimately hurt the publishers’ bottom line as revenue further declined. In particular, competition from used and rental textbooks has forced publishers to abandon their traditional business model and formulate a new one that focuses on student affordability.

The emergence of an organized used-book market, where a single copy may be resold 6 times during the life cycle of a textbook’s edition, had a pronounced impact on college textbook pricing. To introduce new textbooks to the market, companies spend large sums of money to sign an author and then develop, review, produce, market, and distribute the book. Publishers do not generate revenues after the initial sale of a printed textbook. Most of the profits of a book (assuming that it is successful in the marketplace) are realized in the first or second year of an edition. Why? Students rarely keep their books following completion of a course but instead sell them to used-book companies.

When buying used books, a used-book company typically pays 15%–25% of a new book’s price. The company then resells these books to college bookstores for approximately 50% of a new book’s price. Also, faculty sometimes sell free desk copies of the textbooks that they receive for examination but don’t use in the classroom. For widely used desk copies, faculty typically receive 30%–40% of a new book’s price (Koch, 2014). By purchasing printed books from students and faculty and reselling them to college book stores, used-book companies directly compete with new books that publishers are trying to sell, thus reducing the profitability of new books. College book stores are willing to sell used books to students since their profit margins on these books generally exceed those on newly printed books; margins on used books average 33%, whereas new book margins average 23% (National Association of College Stores, 2019). Moreover, by the 1990s, e-commerce firms like Amazon strengthened the market for used books by more efficiently connecting sellers and buyers. Therefore, as a percentage of total textbook sales, used textbook sales increased from an historic average of approximately 30% to approximately 36% by 2000. Their sales have continued to remain strong in recent years (Benson-Armer et al., 2014).

To offset competition from used-book companies, textbook publishers have adopted several strategies, with mixed results. They can increase the price of new books to recoup their investment on first-year sales of a book, they can revise the book more often to make the previous edition obsolete, or they can bundle (shrink wrap) some additional items such as a workbook, so that students will need to buy new books to obtain the free workbook. Although this strategy has sometimes worked, bookstores have often unbundled the new printed book from the study guide and sell both separately. Also, textbook publishers have attempted to strengthen their agreements with foreign wholesalers to discourage the reimporting of cheaper textbooks from international locations, resulting in reduced sales for U.S. publishing companies (Carbaugh, 2016). These wholesalers obtain international editions of textbooks, which are similar to American editions in content, but sell at much lower prices in poorer countries such as India or Malaysia. The books are then resold in the U.S. market, thus competing against the new printed books of American publishers (U.S. Government Accountability Office, 2005).

Student rental of printed textbooks has been another source of competition to the outright purchase of new textbooks from publishing companies. The rental market was first developed in the 1950s–1960s. Under this system, college bookstores purchase printed textbooks that they subsequently rent to students. The system is most successful when students take classes that have large and certain enrollments (e.g., Accounting 201) and when colleges use an identical edition of a textbook for 2–4 years, a practice that faculty often find objectionable. However, publishers are now directly renting books to students, which squeezes the bottom line of college bookstores. Rental programs tend to change the cost structure of books; students pay less initially, but they do not receive money at the end of the semester if they sell the book.

Concerning rental textbooks, they tend to have a negative effect on the sales of new printed textbooks. In the first year of a new book’s edition, the sales of publishing companies rise as rental companies must purchase new books to build up their inventory. However, this is offset by a 25%–30% decrease in the sales of new books in subsequent semesters as rentals replace sales of new books. Throughout the entire publication cycle of a textbook’s edition, rental textbooks tend to decrease the total sales of new textbooks by 5%–10% (Benson-Armer et al., 2014). Also, publishing companies have been hit by competition from free or low-cost books such as OpenStax, discussed later in this article.

In 2014, analysts at McKinsey & Company surveyed more than 1,000 college students concerning their preferences for textbooks. It was found that 28% of the students surveyed preferred new printed textbooks, 36% preferred used printed textbooks, 24% preferred printed rented textbooks, 3% preferred digital textbooks (discussed later in this article), and 9% preferred not to buy a textbook. McKinsey & Company projected that by 2018, only 26% of students would prefer new printed textbooks, whereas 30% of students would prefer rental textbooks and 30% would prefer used textbooks (Benson-Armer et al., 2014).

Therefore, McKinsey & Company provided a dismal forecast for college textbook publishers when it predicted that rental textbooks would cannibalize new printed textbook sales. McKinsey & Company also called for publishers to shift toward a digital format rather than relying on printed textbooks as a main source of revenue. Yet in this case, McKinsey & Company misjudged the performance of textbook publishers, as the dire future arrived even sooner than it predicted. The major textbook companies reported substantial decreases in sales in revenue and operating losses by 2016, reflecting the pattern of a continuing fall in publishers’ revenues from their historical norms. As for Cengage Learning and McGraw-Hill, they recorded losses totaling in the hundreds of millions throughout 2016–2019, as seen in their annual reports. All told, the numbers painted a vivid picture of an industry in distress—the traditional business model of relying on relatively expensive, printed textbooks as a main source of revenue was unraveling. Therefore, publishing companies have been under great pressure to revise their business model by focusing on student affordability as well as rationalizing their operations through mergers. In the case of McGraw-Hill and Cengage Learning, their failed merger attempt would have involved two financially weak companies that are attempting to reduce overhead and production costs and create additional revenue streams so as to improve their bottom lines, as discussed below.

Proposed Merger of Cengage Learning and McGraw-Hill

In May 2019, Cengage Learning and McGraw-Hill, two of the country’s three largest college textbook publishers, announced that they would merge. Their merger would be a “horizontal” combination of two direct competitors in the same industry. The boards of directors of each company approved the proposed merger. Rather than one publisher acquiring another, the merger was viewed as a combination of equals, with both McGraw-Hill and Cengage Learning retaining 50% of the new company. The merger would have created the second largest textbook publisher in the United States with a combined valuation estimated at US$5 billion and US$3.2 billion in annual revenue. Pearson Education, with a market cap of US$8.5 billion, is the largest publisher. Company officials expected that the merger would be consummated in 2020, following the approval of the U.S. Department of Justice.

The deal did not surprise market analysts, given the adverse financial pressure facing the textbook publishing industry. Moreover, both McGraw-Hill and Cengage Learning are highly leveraged companies that are burdened with sizable debt. Therefore, analysts viewed the merger as two weak publishing companies combining to become one less-weak company (McKenzie, 2019).

The proposed merger would consist of an all-stock transaction, which retains the name of McGraw-Hill and is led by the Chief Executive Officer of Cengage Learning. The company’s leadership team would be from both Cengage Learning and McGraw-Hill. Company officials noted that Cengage Learning and McGraw-Hill have complementary capabilities and talent and that their merger would yield substantial cost savings that would be used to lower prices for students and to expand digital offerings. Company officials also noted that, as individual companies, they do not have the scale to deliver on the problem of student affordability of textbooks, and thus, the merger is essential (McGraw-Hill and Cengage Learning, 2019).

However, the proposed merger would eliminate competition between the second and third largest firms in the college textbook publishing industry. Therefore, it would involve close scrutiny of the U.S. Department of Justice, and it might result in one or both publishing companies divesting overlapping assets (book titles) as a condition of merger approval (see “Primer on Antitrust Enforcement” appendix at the end of this article).

According to the Horizontal Merger Guidelines of the U.S. Department of Justice (and the Federal Trade Commission), mergers may be challenged if they result in significant market power. For a seller, market power is the ability to charge a price that exceeds the competitive level for a substantial amount of time, thus harming consumers. However, the U.S. Department of Justice also recognizes that mergers may foster efficiencies that result from economies of scale and economies of scope, which allow the combined firm to realize lower costs in producing a given amount of output than either firm could have realized in the absence of the merger. Therefore, when deciding to challenge a merger between two direct competitors, like McGraw-Hill and Cengage Learning, the U.S. Department of Justice deliberates both of these possibilities. That is, it considers whether recognizable efficiencies of a merger would likely be large enough to offset the potential harm that it may impose on consumers (U.S. Department of Justice and the Federal Trade Commission, 2010).

Regarding the proposed merger of McGraw-Hill and Cengage Learning, the U.S. Department of Justice considered only “merger-specific” efficiencies—that is, cost reductions that are likely to occur only if the two firms merge. Yet such efficiencies are hard to measure and authenticate, partly because much of the data involving them are exclusively in the hands of McGraw-Hill and Cengage Learning. Moreover, efficiencies that are projected by the merging firms may not be realized in practice. Therefore, it was necessary for McGraw-Hill and Cengage Learning to clearly substantiate efficiency claims, so that the U.S. Department of Justice could assess the probability and size of each stated efficiency, how it would be attained, the extent to which it would improve the merged firm’s capability to compete, and why it is merger-specific (U.S. Department of Justice and the Federal Trade Commission, 2010).

Oliver Williamson’s Trade-Off: Market Power Versus Economic Efficiencies

The current Horizontal Merger Guidelines of the U.S. Department of Justice and the Federal Trade Commission, as discussed in the “Proposed Merger of Cengage Learning and McGraw-Hill” section of this article, recognize that a merger’s economic efficiencies (in the form of cost savings) matter in favor of the merger if they are passed through to customers in the form of lower prices. However, this view did not always prevail. For example, during the 1960s, the conventional wisdom was that any increase in market power, due to a merger, would outweigh the benefits of any cost savings. In a series of merger decisions, the U.S. Supreme Court expressed a negative attitude on the merits of economic efficiencies. Thus, the Horizontal Merger Guidelines initially allowed for only a limited efficiency defense in merger cases (Williamson, 1977).

To address this issue, Oliver Williamson (1968), an economics professor at the University of Pennsylvania, wrote a paper that was published in the American Economic Review in 1968. Williamson proposed that efficiency gains in the form of cost savings could more than offset the increase in market power resulting from a merger. His paper pioneered the way in showing how to rigorously consider the trade-off between market power and economic efficiencies that result from a merger. The conclusion of Williamson was that antitrust policy should be “discretionary,” in which government regulators who encounter a proposed merger need to assess each proposal on a case-by-case basis. Sometimes, the cost savings might be substantial and thus make it worth the loss of competition, while not so in other cases (Williamson, 1977).

Although Williamson’s approach received much acclaim, it was not instantly adopted by antitrust authorities; that is, he was ahead of his time (Shapiro, 2010). It took until 1997 for the U.S. Department of Justice and the Federal Trade Commission to revise their Horizontal Merger Guidelines to include Williamson’s ideas about merger efficiencies (Organisation for Economic Co-operation and Development, 2013).

As seen in Figure 1, Williamson developed what he called a “naive trade-off model” of a horizontal merger that results in increased market power and increased economic efficiencies. The model is static in that it pertains to a particular point in time, like a snapshot.

OPEN IN VIEWER

Figure 1.

The Williamson trade-off: market power versus economic efficiency. (a) Price equals marginal cost before the merger. (b) Price exceeds marginal cost before the merger.

Referring to Figure 1a, prior to the merger, the market is assumed to operate in a competitive equilibrium in which firms produce on identical constant cost curves, denoted by MC₀ = AC₀. The competitive price is US$120, and it is identical to the marginal cost (and average cost), which implies zero economic profits. Suppose, now there is a merger among firms that results in a reduction of competition and an increase in market power—the ability to charge a price higher than the marginal cost. Assume that price increases to US$140 and the quantity produced falls from 30,000 units to 20,000 units. The higher price leads to a decrease in consumer surplus shown by shaded triangle D, which signifies the deadweight welfare loss of the merger. At the same time, suppose that the merger results in economic efficiencies (economies of scale) that yield a cost reduction, shown by cost curve MC₀ = AC₀ (US$120) shifting downward to cost curve MC₁ = AC₁ (US$80). Thus, the cost-savings gain to the producer is depicted by shaded rectangle E.

All else being equal, Williamson concluded that antitrust authorities should look favorably upon the proposed merger if its efficiency gain (area E) is larger than its deadweight loss of consumer surplus (area D). In 1968, Williamson made the point that even a small decrease in marginal cost (perhaps 5%–10%) might be sufficient to offset the welfare loss due to the price increase resulting from the merger—that rectangles tend to be larger than triangles. Moreover, it is possible that a merger that leads to greater market power could result in a decrease in price if the cost savings are sufficiently large. In this situation, there would be no trade-off between efficiencies and market power, and social welfare would increase as a result of the merger (Organisation for Economic Co-operation and Development, 2013).

A key aspect of Williamson’s naïve model is the assumption that the premerger price, US$120 in Figure 1a, is competitive, which implies that price equals marginal cost. If the market is not initially competitive, implying that market power exists, then we would be comparing a rectangle of efficiency gain to a trapezoid of deadweight welfare loss of consumer surplus. In this situation, it turns out that even small increases in price can result in sizable decreases in society’s welfare because rectangles do not tend to be larger than trapezoids. This is shown in Figure 1b where the premerger price is US$140, which increases to US$160 following the merger, despite a decrease in the MC = AC curve from US$120 to US$80. This results in a deadweight loss of consumer surplus that is shown by shaded trapezoid G + H, which is greater than the shaded cost-saving rectangle F. Therefore, when firms possess some amount of market power before a merger, small cost savings do not necessarily outweigh an increase in price, and small increases in price may lead to sizable decreases in social welfare (Whinston, 2007).

Williamson’s trade-off has relevance for McGraw-Hill and Cengage Learning, in which their merger could lead to improvements in economic efficiencies but also increased market power. According to its Horizontal Merger Guidelines, the U.S. Justice Department considered both of these effects when evaluating this merger. Indeed, the writings of Williamson had a profound effect on the formation of antitrust policy. In 2009, Williamson received the Nobel Memorial Prize in economic sciences (sharing it with Elinor Ostrom) for his work that became central to antitrust economics and the analysis of economic governance, especially the boundaries of the firm.

However, Williamson’s naïve trade-off model is not without limitations. For example, the model only considers the impact of a merger on the price charged by firms. However, in many real-world situations, firms compete on dimensions other than price, such as product quality and product differentiation. Also, the model is a static approach to analyzing mergers, which ignores dynamic efficiencies that occur over a period of time and is associated with innovation, learning by doing, and research and development. Moreover, the model assumes that costs of production represent true social costs, which may not always be the case (Fink, 1984). Finally, the model compares the performance of a competitive industry to that of a monopoly. If applied to the situation of McGraw-Hill and Cengage Learning, the model would assume that there are no other publishers in the market, when in fact Pearson Education looms large—the market is oligopolistic. Therefore, although Figure 1 helps illustrate the general concepts of market power and economic efficiency, strict application of the figure to Cengage Learning and McGraw-Hill would not be appropriate.

Cengage Learning and McGraw-Hill Terminate Merger Agreement

From the start, the merger proposal of Cengage Learning and McGraw-Hill was plagued by criticism that it would decrease competition in the college textbook market and result in students facing higher prices and fewer choices. Consumer advocacy groups lobbied the U.S. Department of Justice to block the merger, noting that it would result in the textbook market being dominated by two firms (a duopoly), Pearson Education and the newly merged Cengage-McGraw-Hill. Also, letters from several prominent members of Congress complained about the potential adverse effects of the merger. Moreover, antitrust authorities in Australia, New Zealand, and the United Kingdom raised concern about the merger’s anticompetitive impact. These are countries where the two publishers conduct substantial amounts of business.

Critics noted the college textbook market has experienced substantial consolidation over the past several decades. The proposed merger would further consolidate the market by combining two of the three major publishers of college textbooks. With Cengage Learning having a market share of 22% and McGraw-Hill having 21% of the market, their merger would result in a single company controlling in excess of 40% of the market; the other top company, Pearson Education, has a market share of about 40% (Simba Information, 2019). However, excessive levels of consolidation is presumed to be illegal under the antitrust laws and the Horizontal Merger Guidelines of the Justice Department. For example, in 1963, the Supreme Court held in the Philadelphia National Bank case that a merger resulting in a single company with more than a 30% market share “is so inherently likely to lessen competition that it presumptively violates Section 7 of the Clayton Act” (U.S. Supreme Court, 1963). The 40% market share of Cengage Learning and McGraw-Hill seems to exceed this standard.

However, officials at Cengage Learning and McGraw-Hill maintained that in their analysis of college textbooks, the U.S. Department of Justice adopted a narrow definition of the market; that is, it considered printed textbooks, but it did not include other course material options available to students, such as rentals, used books, and open educational resources. Including these items in the market definition would broaden the size of the market, resulting in a smaller share of a larger market being held by Cengage Learning and McGraw-Hill. Moreover, a smaller market share would suggest that these firms have less monopoly power. This would have downplayed fears that the merger would reduce competition, according to company officials (Wan, 2020).

Officials of Cengage Learning and McGraw-Hill estimated that the merger would bring together the two companies’ complementary missions, capabilities, and talent that would enable them to realize US$300 million in cost savings over its first 3 years, a reduction in the total cost base of approximately 10%. This added financial strength would allow the merged company to continue innovating and making more digital materials available to students at lower prices as well as investing in areas such as model-based testing tools and gamification. As mentioned earlier in this article, it was necessary for McGraw-Hill and Cengage Learning to clearly substantiate their estimate to the U.S. Department of Justice. However, this author was unable to determine whether the U.S. Department of Justice agreed with the publishers’ estimate—details of antitrust investigations are not made available to the public.

Similar to other mergers in the past, Cengage Learning and McGraw-Hill proposed selling their assets (textbook titles) in particular areas where they directly compete to maintain competition. The companies identified 51 market niches in which they competed directly, and they proposed selling global assets relating to 42 of the 51 niches, along with regional assets in eight other areas. However, in the view of the antitrust authorities, this proposal was not sufficient to maintain competition. The U.S. Department of Justice reportedly asked the publishers to divest assets worth around US$175 million, at the upper limit of what the companies said they were prepared to do in their merger agreement of 2019. However, officials at the publishers noted that because they would have to sell off so many of their assets, the financial return on the merger deal was significantly diminished; that is, the merger no longer made sense (McKenzie, 2020).

After reviewing the merger proposal of Cengage Learning and McGraw-Hill for almost a year, the U.S. Department of Justice informed the companies that it had serious concerns that the proposed merger would harm competition. In response to these concerns, the companies announced the termination of their merger agreement on May 4, 2020, noting that they had already spent too much on legal fees and other efforts to fulfill the demands of antitrust authorities. Also, the prolonged duration of the merger investigation was causing a distraction to the companies’ sales staff who were not sure whether textbook titles would be divested.

Revising the Traditional Business Model: Online Textbooks

The traditional business model of college textbook publishers relied on printed textbooks that sold at relatively high prices and realized continuing profits. For many years, college textbook publishers were relatively immune to falling sales that affected other parts of the publishing industry. But all of that changed by the early 2000s, as students in increasingly large numbers purchased fewer textbooks, even those required for their courses. Textbook publishers were slow to adapt to this reality and their business model became outdated as profits dwindled. By 2016, major publishers reported substantial declines in sales revenue and large losses, resulting in the reorganization of publishers’ operations and the laying off of staff. These trends pointed to an industry in distress. It became widely recognized that textbook prices were too high and that publishers needed to develop a business model that focuses on student affordability—that is, students look to spend as little money as possible on textbooks.

Custom publishing was one of the first attempts of the college publishers to adapt their business model. To protect themselves from competition by used books and rental books, publishers offered printed textbooks with only the topics that a particular professor planned to use in a course. This resulted in a personalized, customs textbook selling for less than a printed textbook that contained all topics and all chapters, thus focusing on student affordability. Because a customs textbook was geared to the course content desired by a particular professor, it could not easily be sold on the used-book market because other faculty tended to prefer a customs textbook with different contents or a complete textbook with all topics and chapters. However, the printed customs-textbook market has matured, suggesting that opportunities for future growth are now modest.

As internet technologies advanced, publishing companies further revised their business model by providing digital textbook choices to students. E-textbooks are online textbooks that students read on a smartphone, computer, or tablet. They allow a student to rent a textbook online rather than buy a printed text. Students no longer have to be concerned with selling their textbooks when the semester or quarter ends. Also, digital textbooks can be updated relatively easily, thus providing students access to the latest academic content.

Publishers like McGraw-Hill and Cengage Learning now provide e-textbooks for their traditional subject offerings. The annual reports of these companies show that in 2018, the digital sales of e-books and related materials accounted for 63% of total higher education revenue (gross sales) for each company, whereas printed textbooks provided 37% of each company’s revenue. In 2016, digital sales accounted for 56% of total higher education revenue for McGraw-Hill and 46% for Cengage Learning. Clearly, the trend toward digital sales has been rising for these publishing companies.

Concerning student users, their e-books are subject to expiration dates of, say, 4 months, which prevent the books from being resold in the used-book market. Moreover, e-books contain online codes that work only once, restrictions on page printing, and other procedures that result in limited usage and higher cost (Young, 2012). Critics of e-books maintain that by renting rather than selling digital content, publishers control when, where, and for how long students access their learning materials, thus perpetuating the same dynamic that allowed print textbook prices to rise in the first place (McKenzie, 2018).

To further increase market access for e-books, publishing companies have developed “inclusive-access deals,” where all of the students taking a class (say, Accounting 201) are signed up to digital materials by their universities. Rather than shopping for their own textbooks, students pay a course fee that is levied by the university, and thus, it becomes part of their tuition. This fee allows students to obtain a subscription that gains access to, say, Cengage Learning’s entire textbook catalog and related course materials for the period of the subscription rather than paying for individual titles for each course. Thus, students have access to every Cengage book and study guide that they need. Inclusive access deals were initially reached with for-profit schools like the University of Phoenix. They are now gaining traction among nonprofit institutions like University of California-Davis, which initiated the program in 2014; their students are automatically enrolled and are assessed a fee unless they opt out of the program.

For example, during academic year 2018–2019, Cengage Learning charged a subscription fee of US$120 for 4 months, US$180 for 1 year, or US$240 for 2 years. The company noted that this program often costs less than a single textbook and that the program provided students cost savings of about US$60 million in 2018–2019 (Cengage Learning, 2018). However, the value of Cengage Learning’s subscription service depends on students being assigned multiple Cengage textbooks by their professors. If professors teach more classes using Cengage books, the value of the subscription service increases for students.

Textbook publishers maintain that the inclusive-access program helps hold the cost of textbooks down because there is a virtual guarantee that students will purchase the textbooks. The subscription program is similar to buying in bulk, only for textbooks instead of food. When hundreds or thousands copies of a digital textbook are ordered, colleges can negotiate a much better price than students would able to get on their own, even for used books.

Publishers also note that the inclusive-access model tends to level out the peaks and troughs of their sales revenue. Students continually pay course fees to access digital textbooks every semester or quarter, regardless of when a new edition is published. In contrast, the sales revenue of the traditional business model is more lumpy, with ups and downs in revenue occurring over the course of a textbook’s edition. With sales revenue being more stable under inclusive-access model, the prices of digital textbooks fall, according to the publishers.

However, textbook authors have questioned the effect of the inclusive-access model on their royalties. For example, several Cengage authors filed lawsuits in 2019 claiming that the company’s expanded digital courseware offerings under the inclusive-access model violated their publishing agreements. This resulted in a reduction in the amount of royalties that authors earn while allowing Cengage Learning to capture a larger share of revenue, according to the lawsuits. These lawsuits were ongoing at the writing of this article (Parsons, 2019).

Of course, the inclusive-access approach is not the only method to address the unaffordability of textbooks. Open educational resources provide another option. Massachusetts Institute of Technology is often credited for launching the global open educational resources movement in 2002. Such resources include textbooks, study guides, and videos that have been funded, published, and licensed to be freely used, adapted, and distributed. These educational resources are reviewed by college faculty to determine their quality. The resources can be downloaded at no cost or printed at low cost. For example, the Open Textbook Library currently includes more than 600 books in a variety of subject areas ranging from psychology to economics. Open educational resources are considered to be a partial solution to challenges encountered by traditionally printed textbooks, such as student affordability concerns. By providing competition to traditional textbooks, open textbooks can help promote reductions in prices. To encourage authors to write open textbooks, several organizations have provided them with grants (Frydenberg & Matkin, 2007).

In 2016, the Independent College Bookstore Association conducted a survey of 2,902 college and university faculty who teach at 29 colleges and universities. This survey found that only 15% of faculty were using open educational resources in their courses, either as primary courseware or supplemental learning materials (Green, 2016). However, based on a 2016 survey of more than 500 college faculty who have adopted open educational resources, analysts at Cengage Learning concluded that open educational resources have the potential to triple in use as primary learning materials in higher education over the next 5 years, from an adoption rate of 4%–12%. Also, the employment of open educational resources for supplemental learning may almost quadruple in size, from an adoption rate of 5%–19%, according to Cengage Learning (2016). Therefore, open educational resources appear here to stay, and companies like Cengage Learning are adapting their business models so as to become part of this movement.

Like other established publishers, both McGraw-Hill and Cengage Learning are betting their digital business on subscriptions that provide students unlimited access to all of their digital materials. The goal of Cengage Learning and McGraw-Hill is to increase revenue and profits, and they want to do that by expanding the use of digital products to the majority of students who do not currently use these materials. Thus, the companies maintain that they plan to achieve growth in revenue through increased volume rather than increases in price (Blumenstyk, 2019).

Conclusion

During the late 1900s, the major college textbook publishers operated in an environment of continuing profits and growth driven by high prices. Textbook prices rose much faster than the overall rate of inflation. But things changed. Online retailers introduced new competition into the textbook market by providing an outlet for used books. Publishing companies watched powerlessly as their profit margins sunk on printed textbooks. Rented books further reduced the profitability of publishers. Therefore, some publishers declared bankruptcy while others merged with financially stronger publishers. With the industry in distress, the major publishers are now scrambling to develop a new business model that distances itself from printed textbooks and moves toward one that is based on digital textbooks, study guides, and other learning materials.

The merger proposal of McGraw-Hill and Cengage Learning reflected the current problems of college textbook publishing: The merger would be between two financially weak companies that are attempting to reduce overhead and production costs and create additional revenue streams. In its assessment of the merits of this merger, the U.S. Department of Justice drew from its Horizontal Merger Guidelines, greatly influenced by the writings of Oliver Williamson in the 1960s, that include considerations of increased market power and economic efficiencies that could result from a merger. The graphical portrayal of these considerations, as used in this article, is intended to help students visualize antitrust policymaking in relation to an example that affects their lives—the cost of college textbooks.