In June, we wrote about Berkshire's recent newspaper investments. We followed up that report with a deep dive analysis of the newspaper related investments that Berkshire has made through the years. In our second report installment we were interested in examining further the newspaper portfolios of the companies that Warren Buffett and Berkshire Hathaway (BRK.B) (BRK.A) has invested in the past and has invested in recently. In this report we will examine the recent performance of Berkshire's newspaper investments, regardless of whether in the form of public equity, outright ownership or debt with an equity kicker.
BH Media Group and the Buffalo Evening News: Berkshire owns the Buffalo Evening News and it was the only newspaper fully owned by Berkshire for almost 35 years. We've already established how the paper is a regional metro area broadsheet newspaper that is serving a city that has seen steady population erosion since 1930 and its suburbs have not been able to make up the declines seen in Buffalo proper. For whatever reason, Berkshire is keeping it separate from its BH Media Group organization. Berkshire set up BH Media Group to oversee the 63 newspapers it acquired from Media General (MEG) as well the Omaha World-Herald (which was acquired last year). Berkshire recently bought the Tulsa World and the Greensboro, NC News & Record. Berkshire also shut down the Manassas, VA News & Messenger.
The Washington Post Company (WPO): Berkshire directly owns 23.4% of WPO and has been WPO's 2nd largest shareholder since 1973. Buffett tutored Katherine Graham and her son Donald on how to run a business to maximize shareholder wealth and Katherine Graham was Buffett's ticket to high society. Because of Buffett's involvement, we see that WPO has handled the shakeout in the news industry better than other firms who did not have the vision to diversify into higher-value content like for-profit education as well as the television business. While The Washington Post may be the name of the parent company, the flagship newspaper and its Post-Newsweek Media community papers only account for 14% of the company's revenue. WPO's best performing divisions in Q4 2012 was its broadcast TV division and its cable television division. WPO's TV broadcasting division saw revenue growth of 32% and operating income growth of 54% in Q4 2012 due to the competitive political election season. WPO's cable television operations saw 5.7% revenue growth and 3.65% operating income growth due to increased Internet and telephone service revenues. These gains were partially offset by declines in basic video subscribers and higher programming costs.
Source: Washington Post Q3 2012 10-Q
WPO's Kaplan Higher Education subsidiary was formerly WPO's high-flying star performer but is now a broken growth company. Kaplan is facing industry related headwinds thanks to lower student enrollments and government reforms of the industry, which explains how Kaplan's adjusted profits declined by nearly 100% in 2012 versus 2011 and suffered $111.6M in asset impairments. WPO's Newspaper Publishing division saw its revenues decline by 5.8% from $172M in Q4 2011 to $162M in Q4 2012 (FY 2012 decline of 6.56% versus FY 2011 levels). The division benefited from a $1.6M (5%) increase in year-over-year revenues from its online media properties but this was more than offset by an 8.25% decline in print advertising revenue. Average daily circulation declined by 8.6% for The Washington Post in 2012 versus 2011 levels. Operating income declined in Q4 2012 by 61% versus Q4 2011 due to declining revenue and increased pension expenses. WPO is looking to harvest cash from its newspaper business by selling its Everett, WA community daily newspaper publication (The Herald) to the Sound Publishing subsidiary of Black Press Group Ltd. WPO is also looking to sell its headquarters building located in Downtown Washington, DC.
Warren Buffett made two mistakes with his WPO investment:
- Failing to sell out in 2004 when WPO's share price was within $.50 of $1000
- Damaging his marriage to Susie Buffett by having an affair with WPO's publisher Katherine Graham. At least Buffett admitted his regret to what he did.
Gannett Co. (GCI): Berkshire still owns $32.5M of Gannett, which represents 76bp of GCI's outstanding market cap. We think Gannett is actually one of the better print media companies out there. Although that's not saying much due to the secular declines in the industry, Gannett was still able to generate $665M in free cash flows in FY 2012. Considering that its market cap is only $4.3B, we can take note of this 16.3% free cash flow to market price "yield" as well as its 4.3% dividend yield. Although Gannett generated solid performance for Q4 2012 and beat analyst EPS expectations by $.01, it was driven by the season trends relating to advertising on the hotly contested 2012 election season. However, Gannett's cautious outlook for 2013 coupled with the absence of revenue from the Summer Olympics and political advertising helped knock its share price down by 6.7% when it released its results on February 4th. We can see why Gannett has its fans; after all it has diversified out of print media and gets 30% of its revenue from high growth media content areas. However it still has to deal with the declines of the print media business, which still brings in 70% of the company's revenue even during years that have the Presidential elections and the Summer Olympics.
Source: Gannett Q4 2012 Earnings Release
Gannett saw its total revenue increase by 9.4% year-over-year in Q4 2012 on the strength of its broadcasting operations. Broadcasting revenues grew by 44% year-over-year and accounted for the majority of GCI's revenue growth in the quarter. Publishing revenue increased by 3.7% in Q4 2012 due to the benefit of an extra week during the fiscal quarter. GCI saw 16.8% revenue growth in publishing circulation revenues, which was offset by a 2% decline in publishing advertising revenue. GCI also incurred $118M in non-cash asset impairments, efficiency-driven facility consolidation and workforce restructuring charges. The company also spent $63M on acquisitions in 2012 but the company saw a 10% year-over-year decline in free cash flows even with these boosts to revenues and cash flows. GCI's FY 2012 publishing revenue declined by 2.7% versus FY 2011 levels even with the benefit of an extra fiscal week in FY 2012 and declined by 4.1% when adjusted for the extra fiscal week in the FY 2012 fiscal period.
Source: Morningstar Direct
Media General (Broadcast Television Only): Buffett exchanged his 4.65M penny warrants in MEG for 4.65M common shares in MEG. MEG's broadcast television operations benefitted from the 2012 elections to generate a 39.5% year-over-year increase in broadcast television revenues in Q4 2012 (28% FY 2012). Local gross time sales increased 5.3% to $50.66 million. National gross time sales grew 1.4% to $25.2 million. The largest advertising category, automotive, increased 21% due, in part, to comparisons against last year's weak spending following Japan's tsunami. Other key categories growing in the quarter were financial, grocery, travel, telecommunications and medical. Advertising categories that declined in the most recent quarter on a year-over-year basis included restaurants and department stores. Revenue from political advertising was $30.5M in Q4 2012 and $63.7M in FY 2012 and served as the primary driver for MEG's revenue growth in 2012. We have noted that MEG's revenue would have increased by about 7.5% in FY 2012 excluding the impact from the hotly contested 2012 electoral campaigns nationwide.
Retransmission fees increased 84% as a result of contract renewals that reflected competitive market rates and reached $9.9M. MEG's TV websites generated $2.7M in advertising revenues during the quarter and this was an 18.8% increase. MEG's TV websites advertising revenue was driven by Local Advertising (Up 16%). Unique visitors and page views from mobile devices each increased by 68% in the third quarter, while unique visitors from desktops grew 13%. Political advertising revenues were $33M YTD and are expected to reach $50M for FY 2012. The company has generated $9.4M in free cash flows in Q4 2012 and $18.5M for the year.
We can see why Media General had to sell its newspapers as it had spent $1.04B in cash net of cash acquired to acquire four TV stations in 2006. The company had spent $611M of its cash and borrowed $430M to acquire the TV stations and the combination of the debt and revenue declines from 2006-2012 forced the company to sell its papers at a whopping loss to Berkshire. We believe that whatever value for equity holders that Media General has for equity holders is based on its ability to refinance its 11.75% Senior Notes in 2014 as well as what another company would pay to acquire its television station properties as another buyer would potentially be able to operate MEG's stations without having to deal with MEG's corporate overhead or MEG's high cost of borrowed funds. MEG's broadcast stations generated $145.7M in operating cash flows in FY 2012 however MEG had to devote $31.3M of these cash flows for corporate overhead, $17.9M for capital expenditures and $78M for interest expenses.
Source: Media General's Q4 2012 Earnings Release
Lee Enterprises (LEE): Berkshire also received 3.22M shares of Lee Enterprise's common stock when it bought $85M worth of Lee Enterprises loans which were to be exchanged into junior debt. Berkshire sold all but 88K of its Lee shares in H2 2012. We break Lee Enterprises down into two different companies as follows:
- Lee Publications Inc, which we assign its 46 Daily News serving small communities and micropolitan areas and its 300+ weekly newspapers.
- Pulitzer, Inc, which we assign its four largest metro-area broadsheet dailies, including the 50% owned Arizona Daily Star and the Wisconsin State Journal
We believe that investors who consider Lee for their portfolio should use this framework in order to have an open-mind with regards to the company's prospects. This way, they will arrive at a full, fair and balanced opinion with regards to evaluating the company. That's precisely the framework we used when evaluating it for our portfolio book. Lee Enterprises's revenue for its most recent quarter (Q1 2013 for LEE) registered a 3.4% decline versus its Q1 2012 levels due to a 6.3% decline in its advertising revenue. Operating expenses, excluding depreciation, amortization and unusual matters, decreased by 3.7% in the quarter versus last year's comparable quarter due to lower newsprint and ink costs (-13.1%) as well as lower compensation costs (-4.9%). One bright spot for Lee has been its digital efforts. Lee's circulation revenue increased by 3.9% in the quarter due to a $.50 price increase on its flagship St. Louis Post-Dispatch publication and because of the introduction of paid content subscription initiatives for its newspaper websites. Q1 2013 digital revenue increased by 4.8% and this was driven by 147% increase in its mobile advertising revenue ($1.3M) and Lee's digital products attracted 21.5M unique visitors in December 2012.
Free cash flows were $30.9M in the quarter and this exceeded the $28.65M achieved in the prior year period. The company also paid $29M in debt face value during the quarter and boosted its liquidity by $6.36M. The absence of $10M in debt financing and reorganization costs paid during the quarter helped offset $6.5M in increased interest expenses due to Lee's debt reorganization in the first four months of FY 2012. We were hoping that Lee would have announced with regards to its usurious outstanding 15% 2nd Lien Term Loan Agreement that it would have been redeemed on January 30th, 2013 at 102% of principal.
Source: Morningstar Direct
Although we were hoping that Lee could refinance its 15% 2nd Lien term loan into a 13% (or cheaper) term loan, refinancing the loan would have only generated $1.75M in pre-tax interest expense savings for each 1% reduction in interest expense. Although we have not included in our internal models for purposes of conservatism, we felt that Lee's management should be aggressively pushing to refinance this loan into a loan with a slightly reduced interest rate since it has made significant progress in paying its debt down and has made a couple of timely asset sales (Lee sold the North County Times in October and struck a deal to sell The Garden Island (closing date in the middle of February). Lee's Q3 2013 period will begin to see declines in its interest expenses as Q3 2012 was the first quarter Lee incurred the weighted average interest expense rate of 9.2% on its reorganized outstanding debt and Lee will have a lower borrowing balance in Q3 2013 versus Q3 2012 due to its consistent debt repayments from its free cash flows.
Source: Lee's FY 2012 10-K and Q1 2013 Reports and Our Estimates
In conclusion, we can see why Warren Buffett has not given up on the newspaper business. Warren Buffett is not the only famous investor investing in the newspaper business. Berkshire has its equity and debt stakes in three companies that publish newspapers and one company that used to publish newspapers. Berkshire has also purchased nearly six dozen newspaper publications outright. We are surprised that Berkshire has sold off all but 88K shares of its entire equity stake in Lee Enterprises considering that Lee's EBITDA margin is higher than its peers and because Lee has been making steady progress in paying down its debt even with the burden of higher interest rates. Lee is also the only one of Berkshire's newspaper industry marketable security investments that is a pure-play newspaper company. WPO only gets 14% of its revenue from newspapers, Gannett's success in 2012 was due to its TV broadcasting operations and Media General sold off all of its newspapers to Berkshire.