Part 2: Are Newspapers Buggy Whips?
Either this is a game of battleship or someone is reading a newspaper. Yep…definitely a newspaper.
Before making my final conclusion pertaining to the industry, it is important to take a deeper dive into the financials of the publishing industry.
From 2006 to 2010, the performance of publishing sector stocks have been anemic. At first glance, it may appear as though multiple expansion is a positive development for shareholders; however, a closer look reveals that this expansion is not indicative of investor sentiment towards future industry prospects but is more or less a result of rapidly declining earnings compared to market declines.
- From 2006 to 2009, publishing TEV / Revenue multiples contracted from 0.9x in 2006 to 0.8x in 2009. During the latest period, TEV / Revenue multiple remained at 0.8x.
- From 2006 to 2009, publishing TEV / EBITDA multiples contracted from 8.9x in 2006 to 5.6x in 2009. During the latest period, TEV / EBITDA multiple was 6.0x, representing a slight expansion from 2009.
- From 2006 to 2009, publishing TEV / EBIT multiples contracted from 13.3x in 2006 to 9.7x in 2009. During the latest period, TEV / EBIT multiple was 10.9x, representing a slight improvement from 2009.
- From 2008 to 2009, publishing P / E multiples expanded from 4.5x in 2008 to 5.0x in 2009. During the latest period, P/E multiple was 12.9x, representing a significant improvement from 2009 levels.
- From 2006 to 2009, publishing P / BV multiples remained relatively flat
Profitability and Margins
Unlike many of the trends pertaining to the marketability of publishing stocks, publishing organizations are actually improving profitability metrics across the board. The market crash and subsequent recession in 2007 and 2008, has caused the industry to take drastic steps to reduce headcount, discretionary spending, and capital expenditures; however, this is most likely not the appropriate rationale for sustainable profitability and long term performance. As we will see in other operating metrics, the returns in the publishing industry are mostly likely attributed to operational efficiency instead of margin expansion or growth. The table below indicates that the publishing industry has improved asset and capital based profitability measurements and has faced issues in terms of equity based profitability.
- From 2006 to 2009, Return on Assets (ROA) declined from 5.0% to 4.4% respectively. During the latest period available, ROA modestly increased to 5.3%.
- From 2006 to 2009, Return on Capital (ROC) declined from 7.1% to 6.25. During the latest period available, ROC increased modestly to 7.4%.
- From 2006 to 2009, Return on Equity (ROE) declined from 13.6% to 5.3%. During the latest period available, ROE increased from the 4 year low to 5.4%.
Margin analysis paints a picture that is much less hopeful than that offered by the profitability measurements. Based on the results below, it is apparent that the publishers are effectively managing their cost of goods sold and operational expenditures to the best of their ability; however, they are accomplishing this at the risk of deploying leverage. Future implications of leverage is unknown; however, recently The Chicago Tribune filed for bankruptcy, mostly due to leverage, which crippled the business as advertising and circulation declined immediately prior to the “mortgage crisis”.
- From 2006 to 2009 gross margins expanded from 40.9% to 41.5%. During the latest period, gross margins were listed at 41.0%.
- From 2006 to 2009 sales, general and administrative (SGA) margins contracted from 30.9% to 29.4%. During the latest period, SG&A margins were listed at 29.5%, reflecting an increase of .1%.
- From 2006 to 2009, EBITDA Margin % increased from 10.1% to 13.8%. During the latest period, EBITDA margins were lsted at 12.8%, a decrease of a 1.0%.
- From 2006 to 2009, EBITA margins increased from 6.7% to 8.0%. During the latest period, EBITA margins were listed at 7.1%, a decrease of .9%.
- From 2006 to 2009 EBIT margins increased from6.7% to 8.0%. During the latest period, EBIT margins were listed at 7.1%, a decrease of .9%.
- From 2006 to 2009 earnings from continued operations declined from 4.0% to 2.0%. During the latest period, earnings from continued operations were listed at .9%, reflecting a decrease of 1.1%.
- From 2006 to 2009, net income margin decreased from 3.7% to 1.9%. During the latest period, net income margin was listed at .9%, reflecting a decrease of 1%.
Similar to the profitability and margin trends, the solvency picture for publishers is also becoming a major problem for the industry. From 2006 to 2010, debt to capital ratios have nearly doubled, indicating that many of the publishers have increased their debt burden amidst an unfavorable economic environment and limited industry prospects. Additionally, this has caused interest coverage ratios to decline and debt to profitability ratios to rise. Due to industry wide reductions in capital expenditure, measurements based on profitability adjusted for capital spend are declining at a much lower pace than traditional solvency metrics. Many of the competitors in the publishing industry will become insolvent within the next 10 years as the decline in newspaper sales are offset with increased debt burden.
- From 2006 to 2009, total debt / equity increased form 28.5% to 102.2%. During the latest period, total debt / equity was listed at 99.1%, representing a slight, however, anemic improvement.
- From 2006 to 2009, total debt / capital increased from 21.7% to 41.0%. During the latest period, total debt / capital decreased to 40.9%.
- From 2006 to 2009, long term debt / equity increased from 37.4% to 83.8%. During the latest period, long term debt / equity decreased to 78.8%.
- From 2006 to 2009, long term debt / capital increased from 21.6% to 25.6%. During the latest period, long term debt / capital decreased to 25.3%.
- From 2006 to 2009, total liabilities / total assets increased from 46.4% to 69.8%. During the latest period, total liabilities / total assets declined to 69.1%.
- From 2006 to 2009, EBIT / interest expenses declined from 5.7x to 3.4x. During the latest period EBIT / interest expenses declined to 2.9x.
- From 2006 to 2009, EBITDA / interest expenses declined from 8.7x to 5.8x. During the latest period, EBITDA / interest expenses declined to 5.2x.
- From 2006 to 2009, total debt / EBITDA increased from 1.5x to 2.5x. During the latest period, total debt / EBITDA increased to 2.7x.
- From 2006 to 2009, net debt / EBITDA increased from .4x to 1.6x. During the latest period, net debt / EBITDA increased to 1.7x.
To reiterate many of the common themes that the publishing industry is facing, lets look at the growth trends over the last 5 years. From 2006 to 2010, publishers have seen moderate hope in terms of total revenue, gross profit, EBITDA, and EBIT. It is arguable whether the declines of 2006 to 2007 are a result of decreased pricing power or increased cost of goods; however, it is expected that pricing power will erode into the future and input costs (i.e. ink, paper) are expected in increase exponentially over the next 5 years. Additionally, the increased leverage that many of the firms have deployed over the last 5 years has drastically impacted net income and free cash flow performance.
- From 2006 to 2009, total revenue growth has improved from -6.3% to 2.4%. During the latest period, one year revenue growth increased to 4.8% (unadjusted for seasonality).
- From 2006 to 2009, gross profit has improved from -4.3% to .9%. During the latest period, one year gross profit growth increased to 2.0%.
- From 2006 to 2009, EBITDA growth has improved from -2.9% to 10.3%. During the latest period, one year EBITDA growth declined to 7.1%.
- From 2006 to 2009, EBIT growth has improved from -1% to 17.9%. During the latest period, EBIT growth declined to 11.4%.
- From 2006 to 2009, levered free cash flow growth declined from -15.5% to 20.5%. During the latest period, levered free cash flow growth declined further to -21.5%
- From 2006 to 20009, unlevered free cash flow growth increased from -18.3% to -11.6%. During the latest period, unlevered free cash flow increased further to -10.7%.
Reviewing the financial data of the publishing industry has confirmed the industry outlook supported by circulation and ad revenue trends. In addition, the financial measurements previously stated support many of criticisms made by analysts and the media, particularly in the context of additional debt burden and margin contraction that many of the publishers are facing. While this analysis has pointed out several major issues plaguing publishers, it is important to note that an additional analysis is necessary to truly understand the distinct financial and operational trends facing newspaper publishers explicitly. In Part 3, I intend to evaluate several major newspaper publishers including Gannett Corporation, The Washington Post, and The McClatchy Company to isolate these trends in large organizations and determine whether or not newspapers are truly “dead” or whether or not there are value opportunities for conservative enterprising investors.
Data as of 8/28/2010