Mega-Printers Quad, LSC Call Off Planned Merger

If Quad wants to surpass RR Donnelley to become the largest printer in North America, it appears it will have to do it through organic growth. That's because Quad and LSC Communications — the No. 2 and No. 3 ranked printers on the Printing Impressions 400 — mutually agreed yesterday to terminate their merger agreement whereby Sussex, Wis.-based Quad would have acquired Chicago-based LSC for $1.4 billion in an all-stock transaction.

The proposed coupling was first announced on Oct. 31, 2018, and was subsequently approved by shareholders of both companies in February 2019, with an expected completion by mid-year. It would have combined the two mega-printers of magazines, catalogs, retail inserts, books, and other printed products.

Here's a breakdown of both the individual and combined print product segment mixes if LSC were to have been acquired by Quad. (Click to enlarge).

But, in June, the U.S. Department of Justice (DOJ) antitrust division sued to block the acquisition on antitrust grounds, and this month the U.S. District Court in Chicago set a trial starting Nov. 14 at the earliest and that, reportedly, would not have resulted in a decision by the court until 2020.

Quad fought for an expedited trial, but was unsuccessful to negotiate a trial date before mid-November. As a result, Quad and LSC determined that the added delay, uncertainty and cost of legal challenges would have likely eroded a considerable amount of the expected benefits of the merger, leading them to call off the coupling.

As required by the merger agreement, however, Quad will pay LSC a reverse termination fee of $45 million, which is in line with their original agreement that the proposed acquisition had to be consummated by Oct. 30, 2019.

Quad Chairman Joel Quadracci

“Quad’s commitment to our clients, shareholders and employees, and dedication to preserving a vibrant print option that can compete in the digital age, were driving forces behind this business combination and aligned with our long-term business strategy,” Joel Quadracci, Quad chairman, president and CEO, said in a statement.

“We are disappointed by the Justice Department’s decision to sue to block the transaction and believe that the lawsuit does not reflect the dynamics of print today and the competitive effect of digital media. However, rather than devote time and resources to prolonged litigation, we are choosing to focus on ensuring that our clients benefit from our Quad 3.0 growth strategy through exciting innovations in printing and integrated multichannel marketing solutions that reduce complexity, increase efficiencies and enhance marketing spend effectiveness. We believe this focus is in the best long-term interest of all our stakeholders,” he added.

Thomas Quinlan, LSC’s chairman, president and CEO — who served as chairman of RR Donnelley prior to its breakup into three separate companies (including LSC) in 2016 — indicated he was similarly disappointed, especially in the context of industry trends. "We and Quad recognize the significant additional time and resources that would be required to challenge the DOJ’s complaint and have therefore decided mutually that it is in the best interests of our respective companies to terminate the merger agreement. The LSC board of directors and senior management are confident that LSC has strong capabilities to innovate and further develop our leadership position in the industry," Quinlan said in a statement.

At the same time, LSC also announced that it currently expects lower estimated financial results for the second quarter of 2019:

• Total net sales of $865 to $875 million
• GAAP net loss of $22 to $26 million
• Non-GAAP adjusted EBITDA of $51 to $55 million
• Net cash provided by operating activities of $25 to $29 million
• Non-GAAP free cash flow of $4 to $8 million

Thomas Quinlan, Chairman of LSC Communications

"While our Book and Office Products segments performed in line with expectations during the second quarter, we have seen an unprecedented drop in demand in our Magazines, Catalogs and Logistics (MCL) segment," Quinlan noted.

"This faster pace of decline in demand in the MCL segment results primarily from the accelerated impact of digital disruption of demand for printed materials. As a result, we are updating our 2019 full year guidance and expect our year-end reported leverage to be approximately 3x.”

Due to its lower expectations for earnings and cash flows, LSC's board of directors has suspended dividend payments in order to allocate greater capital to LSC’s debt reduction and ongoing operational restructuring programs. "We believe our ongoing operational restructuring programs, the $45 million break-up fee being paid by Quad and the suspension of the dividend provide LSC with stable financial ground to move forward in our increasingly competitive and evolving industry," he added.

Click to enlarge.

For its part, Quad indicated that Joel Quadracci will discuss the failed acquisition, and decision not to "vigorously" fight the DOJ antitrust lawsuit as previously announced, during Quad's regularly scheduled second quarter conference call with analysts and investors on July 31. He undoubtedly will attempt to turn the attention away from this M&A setback/$45 million reverse termination fee with LSC and, instead, focus on the momentum behind the company's ongoing 3.0 transformation.

To fuel its Quad 3.0 growth strategy, during the past few years Quad has made a series of strategic investments to strengthen and expand its integrated marketing solutions offering, including acquiring marketing services firm Ivie & Associates and creative agency Periscope; and acquiring a controlling ownership interest in digital agency Rise Interactive. Most recently, it made a strategic investment in the dtx company, a company focused on enabling direct-to-consumer brands to acquire and retain customers.

Today, Quad operates 57 plants worldwide and employs more than 20,000 employees. The majority of its operations are in the U.S., where it operates 49 plants (including its Midland, Mich., special interest publication plant that will close in September) and employs approximately 18,000 people.

Going forward, it will be noteworthy to watch Quad and LSC unravel the plans they had undoubtedly been making in preparation to combine the two companies' production capacity and sales organizations into one. Now, they will be back to battling one another as head-to-head competitors, fighting for tight margins in what continues to become a shrinking customer base.