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The McClatchy Company (NYSE:MNI)

Q2 2006 Earnings Conference Call

July 13, 2006 12:00 pm ET

Executives

Elaine Lintecum - Treasurer

Gary Pruitt - Chairman, CEO

Pat Talamantes - CFO

Chris Hendricks - VP Interactive Media

Analysts

Peter Appert - Goldman Sachs

John Janedis - Wachovia Securities

Steven Barlow - Prudential Equity

Lisa Monaco - Morgan Stanley

Lauren Fine - Merrill Lynch

Debra Schwartz - Credit Suisse First Boston

Phil Preuss– UBS

Craig Huber - Lehman Brothers

Christa Sober Quarles - Thomas Weisel Partners

Thomas Russo - Gardner Russo & Gardner

Paul Ginocchio - Deutsche Bank

Jason Harris -

Chitra Sundaram - Cardinal Capital

Edward Atorino - Benchmark Capital

Presentation

Operator

Good afternoon. My name is Amanda and I will be your conference operator today. At this time, I would like to welcome everyone to the McClatchy second quarter 2006 earnings call. (Operator Instructions) I would now like to turn the call over to Elaine Lintecum, Treasurer for the McClatchy Company. Thank you, you may begin your conference.

Elaine Lintecum

Thanks, Amanda. Good morning or good afternoon to you, depending on where you are. Thank you for joining us today for our second quarter conference call. This call is also being webcast at www.McClatchy.com and the webcast will be archived on our web site for future reference.

Our earnings release, statistical report and supplemental schedule of advertising revenue data by category were issued this morning before the market opened. We also issued a pro forma, abbreviated statistical report which shows advertising revenues of the new McClatchy as if the 20 additional newspapers added in the Knight-Ridder acquisition had been included in our results. The full text of our release and statistical reports are posted on First Call and on our web site for your convenience.

As a reminder, this conference call will contain forward-looking statements that are subject to risks and uncertainties, including among others those described in the Company's 2005 annual report on Form 10-K, which we filed with the SEC. Actual results may differ materially from those described during the call. Also, our reconciliation of non-GAAP terms used in this call is included on our web site.

Now, here's Gary Pruitt, our Chairman and CEO.

Gary Pruitt

Thanks, Elaine. Joining Elaine and me are Bob Weil and Frank Whittaker, Vice Presidents of Operations; Chris Hendricks, Vice President of Interactive Media; and Pat Talamantes, Vice President and Chief Financial Officer. Lynn Dickerson, our newest VP of Operations, couldn't be with us today because she is being installed as President Elect of the California Newspaper Publishers Association.

We have a great deal to cover today. I will review our second quarter results, then give you a summary of our Knight-Ridder acquisition, and finally provide a pro forma review of advertising revenues of the combined Company as if we had owned the 20 newspapers added from Knight-Ridder.

As many of you know, we will not include the results of the combined Company until the third quarter, but we realize many of you may be interested in pro forma disclosures of the second quarter as an indication of how the new McClatchy would have performed.

Let's first look at McClatchy's second quarter results. We reported second quarter earnings of $44.1 million or $0.94 per share, including the impact of expensing stock options. That translates to $0.96 per share, excluding stock compensation-related expenses, compared to second quarter 2005 earnings of $44.2 million or $0.94 per share.

In the second quarter of 2006, retail and direct marketing advertising were up, but national advertising fell. Within Classifieds, real estate was strong despite difficult comparisons, while employment and automotive advertising declined, the latter reflecting the continuing industry-wide trend. Employment advertising slowed in our largest markets, reflecting in part tougher comparisons to last year when this category was in recovery.

Retail advertising grew 2.7%, with strong growth in online retail advertising. National advertising was down 3.5%, and Classifieds advertising declined 1.2%. Within Classifieds, real estate was up 19.9%. Employment advertising declined 1.8%, and automotive was down 18.7%. Direct marketing advertising grew 18.4% in the quarter. Interactive advertising, which is included in those figures I just gave you, rose 27.9%.

Now, I will begin our review of revenues by region, highlighting the significant trends in our old McClatchy regions, but I will be briefer than usual, as we have so much news to cover today. So, I'd like to encourage those of you who need our usual level detail to call Elaine after this conference call.

First, California. Our California newspapers generated nearly 39% of our second quarter revenues. Advertising revenues increased 6.5%, while total revenues increased 5.0% in California. The bright spots in this region continue to be real estate and direct marketing, and these were joined in the second quarter by a rebound in retail advertising, which was up 2.7%.

Turning next to Minnesota, the Minneapolis Star Tribune contributed 30% of second quarter revenues. Advertising revenues decreased 4.7% in the quarter, and total revenues were down 4.9% compared to second quarter 2005 revenues, pulled down by declines in national, employment, and automotive advertising. This is the only region where real estate was down. Retail advertising rebounded as well in this region, up 2.4%, and direct marketing revenues were up 32.4% in the region.

Our Carolina newspapers contributed 16% of our second quarter revenues. Advertising revenues were up 1.1%, while total revenues increased 0.8%. Retail advertising was up a strong 6.4%, but was pulled down by automotive and employment advertising decreases.

Finally, the Northwest newspapers contributed 15% of second quarter revenues. Ad revenues were up 0.3% and total revenues increased 0.4%. Retail advertising was flat, and Classifieds advertising was up 1.1%, largely reflecting declines in automotive advertising, offset by strong gains in the employment. A decline in national revenues of 12.5% was offset by 14.8% growth in direct marketing.

For the whole Company, total direct marketing advertising revenue grew 18.4% in the second quarter to $17.4 million, and those direct marketing revenues were up 15.8% to $31.5 million year-to-date.

Our Internet revenues continue to grow rapidly with online advertising up 27.9% in the second quarter of 2006 to $18.1 million. Those advertising revenues are included in our regional results. It's important to note that Internet operations remain the fastest area of revenue growth in the Company, and we continue to expand product offerings and our leadership position online.

Internet advertising represents 7% of second quarter total advertising revenues, compared to 5.5% in 2005, and continues to grow in importance to our Company, especially with the acquisition of Knight-Ridder.

Our total daily circulation declined 2.7% for June and Sunday was down 4.7% year-to-date, as we continue to face tough headwinds from federal do-not-call regulations, as telemarketing continues to evolve in a post-DNC world. We continue to focus on growth of our total audience, which includes both print and online products, and we're holding onto our total audience better than our competition in each of our local markets.

Turning now to expenses, operating expenses increased 1.1% in the quarter, including $1.8 million in stock compensation expense, and were up 0.4%, excluding stock option costs. Compensation costs were up 2.5%. Excluding stock option expenses, they were up 1.2%.

Payroll costs were up 0.9%, and excluding stock option expense, payroll was down 0.7%. Fringe costs were up 8.6%, owing mostly to higher retirement expenses, and FTEs were down 3.7% from the second quarter of 2005.

Newsprint and supplement expense rose 1.3%. They were driven by higher newsprint costs as supplement expenses were down. Newsprint prices were up about 12% on average this quarter, primarily due to higher prices, while usage was down between 8% and 9%, resulting in a 2.8% increase in newsprint costs alone, excluding supplements.

Other cash operating expenses increased 3.2%, which include, among other things, higher energy costs and bad debt expenses, along with the variable costs associated with our growth in direct marketing revenues in California and Minneapolis.

Depreciation and amortization costs declined 16.8%, primarily reflecting the expiration of useful life of certain intangible assets related to the acquisition of the Star Tribune in Minneapolis. As we mentioned last quarter, this is an area where the expense decline will grow as the year progresses.

Interest expense for the quarter was down $1.6 million, down 19.5% from 2005 as bad debt repayment offset the impact of higher interest costs. Our all-in effective interest rate for the quarter was 6.2%. Our debt at the end of the quarter was $109 million. Capital expenditures totaled $10.4 million in the second quarter and were $24.1 million year-to-date.

Now, I want to turn to an update of our acquisition. As you know, we completed the acquisition of Knight-Ridder on June 27, which was the second day of our fiscal third quarter. That day was a landmark for McClatchy. Combining our journalism and proven newspaper operations with 20 additional quality newspapers in high-growth markets positions McClatchy as a leader in the media business.

We look forward to doing more of what we do best: serving communities from Anchorage to Miami with independent public service journalism in an age when the appetite for reliable information is greater than ever.

At closing, we paid $40 in cash and issued 0.5118 Class A shares of McClatchy stock for each Knight-Ridder share. So in total, we issued 35.0 million shares. Based on McClatchy's closing price on June 27 of $39.03, and including the assumption of $2.0 billion of debt, the total value of the consideration paid was $6.1 billion.

Included in this value is all of Knight-Ridder's equity investments which, impressively, consists of:,

First, Internet investments of one-third of CareerBuilder and one-third of Shoplocal; 25% of Topix.net; 21.5% of Classified Ventures; 31% of CityXpress, and 19% of Tribe.

They also include newsprint investments of: one-third interest in SP Newsprint Company, and 13.5% interest in the Ponderay Newsprint Company.

There are still other investments. Knight-Ridder owned 28.9% of Newspapers First and 49.5% of the Seattle Times Company. The Seattle Times Company owns not only the Seattle Times newspaper, but also weekly newspapers in the Puget Sound and daily newspapers located in Walla Walla and Yakima, Washington and in Portland, Maine.

Adjusting for the value of Knight-Ridder's equity investments, which we conservatively valued at only $500 million, we paid 9.4 times trailing 12-month cash flows at closing for all of Knight-Ridder. Many of you have valued Knight-Ridder's equity investment at approximately $1 billion. Using this valuation at closing, we paid 8.6 times trailing 12-month cash flow for Knight-Ridder.

As we have previously reported, we are divesting 12 of the Knight-Ridder newspapers. 11 of the acquired newspapers do not fit our long-standing acquisition criteria, and one, the St. Paul Pioneer Press, is being divested due to antitrust concerns resulting from our ownership of the Minneapolis Star Tribune.

We are excited to welcome the Knight-Ridder papers to McClatchy and wish well to those who are moving on to new owners. We closed four of the divestitures on the day we completed the Knight-Ridder acquisition, and we completed the sale of the two Philadelphia newspapers just two days later.

Six other newspaper sales are pending. The Akron Beacon Journal and the Wilkes-Barre Times Leader are expected to be completed in late July. The four-paper sale to MediaNews Group and Hearst Corporation involving the San Jose Mercury News, Contra Costa Times and Monterey Herald in California and the St. Paul Pioneer Press in Minnesota is being reviewed by the Department of Justice. We are responding actively to assist in that inquiry and are working to close the MediaNews/Hearst transaction as quickly as possible.

In all, we stand to receive about $2.1 billion from buyers of the 12 papers, a total that represents a multiple of 11 times their trailing 12-month cash flows. These full, fair prices came in within our range of expectations, and we're pleased with the results of these sales.

Our acquisition of Knight-Ridder represents about 9.0 times trailing cash flows after the after-tax proceeds of $1.4 billion from the sales of all 12 newspapers, estimated synergies of $60 million, and valuing Knight-Ridder's equity investments at $500 million. This multiple, using a $1 billion valued for the equity investments, drops to 7.9 times trailing cash flows.

On June 27, 2006, the closing, we borrowed $3.076 billion and used the proceeds from the sales of four of the Knight-Ridder newspapers in order to pay Knight-Ridder shareholders and refinance our and Knight-Ridder's bank debt. Total debt on the closing date was $4.676 billion. We have since repaid more than $500 million with proceeds from the sale of the Philadelphia newspapers.

Debt, including the $1.6 billion in bonds assumed, totaled $4.129 billion yesterday. We plan to reduce debt with after-tax cash proceeds for approximately $850 million from the sales of the remaining six papers.

Taking all of this into account, our annualized effective interest costs, including bank debt, bond interest and amortization of bank fees is expected to be about 6.6% in the second half of the year.

Now, I know many of you have questions about the state of our one-third interest in CareerBuilder that came with our acquisition of Knight-Ridder. Our co-owners of CareerBuilder, Gannett and Tribune, have a right to buy out our one-third interest. We've been in discussions with both companies, and we will make a public announcement when the issue is resolved.

Turning to pro forma revenues, of course we will include the results of Knight-Ridder newspapers in our consolidated financial statements beginning in the third quarter. The papers we are retaining will be included in our normal results and to the extent that we own or owned the divested papers, they will be presented as discontinued operations.

A look at second quarter advertising results for the 20 papers we are retaining, combined with our existing 12 newspapers provides a sense of what pro forma advertising results would have been for the new McClatchy. Pro forma advertising revenues for the Company would have grown 1.7% in the second quarter to $618.6 million and would have been up 1.8% to $1.2 billion through the first half.

We allocate our revenues somewhat differently than Knight-Ridder did. For instance, we break out separately our niche and direct-mail revenues into direct marketing. Since we didn't own these papers last quarter, the classifications among segments can't reliably be reported, but in their results, we do see consistency in most of the underlying categories with our second quarter advertising results.

As you can see, from the pro forma abbreviated statistical report which we included in our press release, much of the Company's advertising revenues would still have been fueled from California but in addition Florida was particularly strong with good results for both the Miami Herald and the Bradenton Herald.

Or other newspapers with stronger-than-average advertising growth includes the Fort Worth Star-Telegram, The Statesman in Boise, and the Biloxi Sun Herald. It's clear that we would have benefited from the diversification provided by these 20 additional markets. We look forward to completing the integration of these newspapers. We, frankly, are ready to focus on running these great papers.

As we look to the third quarter of 2006, we see overall advertising results similar to the first half for both our existing papers and the 20 newspapers joining us from Knight-Ridder, with some differences in various advertising categories.

We are encouraged by the rebound in retail advertising and while our comparisons get a little easier in the area of automotive advertising, they are tougher in the real estate category, where we've had a strong run of advertising growth. And employment shows some signs of weakening. Finally, we expect continued strong growth in online and direct marketing advertising.

Looking at fourth quarter, we see some improvement in advertising revenue, as comparisons to 2005 ease. We are confident that the addition of the 20 newspapers in premium markets will solidify our position as an industry leader in advertising growth, and we look forward to a bright future despite the sluggish advertising environment that all traditional media have faced in 2006.

We will continue to focus on holding down costs and expect to achieve synergies estimated at $60 million annually from the acquisition. For the second half of 2006, those synergies are expected to be roughly $20 million to $25 million.

As we have previously discussed, we're not providing earnings per share or cash flow guidance. We will be valuing all of the acquired assets and liabilities over the next few months and quarters and would refer you to the Form S-4 pro forma financial statements for existing disclosures. We will provide as much guidance as possible in our upcoming second quarter 10-Q, although it will not include any purchase price allocations, as that will be just too soon for us to have concluded them. We will be able to provide additional guidance about the accounting for the transaction when we file our third quarter 10-Q.

Thanks for bearing with us through all that. Now, I will be happy to answer any questions you may have.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Peter Appert - Goldman Sachs.

Peter Appert - Goldman Sachs

Gary, any thoughts on the other assets the came with Knight-Ridder -- apart from CareerBuilder -- in terms of Ponderay, Seattle, et cetera, as to whether they would be a potential source of capital for you?

Gary Pruitt

Well, not immediately. Down the road, I suppose that's possible, but we don't have any immediate plans in either of those cases, Ponderay or the Seattle Times Company, as a source of capital. We are in discussions with Tribune and Gannett, relating to other Internet assets, including Shoplocal and Topix.net, where we own one-third along with them.

Peter Appert - Goldman Sachs

Discussions in the context of that being a potential leverage point with regard to the discussions around CareerBuilder?

Gary Pruitt

I'm not going to answer that question. The three companies have constructive discussions on going related to all of those shared Internet assets.

Peter Appert - Goldman Sachs

Okay. Do you have a timeframe in terms of when you will be able to get a decision on all of this?

Gary Pruitt

Concerning CareerBuilder?

Peter Appert - Goldman Sachs

Yes.

Gary Pruitt

I'm hopeful. When we have a resolution, we will announce it publicly and I would hope that that would be in a matter of weeks, not months.

Peter Appert - Goldman Sachs

Okay. Then, just any early thoughts in terms of, as you get into the Knight-Ridder properties, incremental opportunities from a revenue pricing or cost perspective that might be better or worse than you originally thought as an outsider?

Gary Pruitt

A little too early to address that question comprehensively. We are planning meetings related to revenue opportunities and in regional meetings, of course looking for cost synergies as well. That kind of analysis is underway, but we are unprepared at this time to quantify it. We look forward to giving you further updates as we go along.

Peter Appert - Goldman Sachs

Okay. Then the last thing, the improving trend in retail, which we've seen from a couple of the publishers, is certainly encouraging. Any thoughts on where it's coming from or any granularity in terms of the subcategories that are driving it and the sustainability of it?

Gary Pruitt

We do think that retail will have some legs, and the reason for my confidence grows from the fact that the majority of the growth in retail revenues in the second quarter for McClatchy came from online sources.

So what's happening is retailers that in past years weren't as active online are now increasingly active online, and that's a trend we see continuing. For the first time, we're really starting to get traction on the retail side, spurred in part by the maturing of the medium, our local search strategy, and I see that going forward.

Now also, we're not facing as much headwind in the decline of major department stores. I think we've weathered most of that to date, so we're not working uphill against that.

Our markets are generally healthy, and there's some new retailers coming to some of our markets RC Wiley, a large furniture store coming to Sacramento, et cetera. So we see some general follow-through in the retail category.

Peter Appert - Goldman Sachs

Great, thank you.

Operator

Our next question comes from John Janedis - Wachovia.

John Janedis - Wachovia Securities

Thank you. Just one quick one, Gary. Knight-Ridder had been somewhat aggressive I would say on the discounting of circulation. How widespread is it for the papers that you've kept? Can you talk a bit about your general views on that? Thank you.

Gary Pruitt

Sure. Knight-Ridder, in recent years, had been much more aggressive on circulation discounting. You are right. They were beginning to pull back from that most recently, and the papers were in the process of doing that and generally wringing out some of the third-party circulation as well.

Our general feeling is that we are not enamored with widespread discounting, and we supported Knight-Ridder's trend to begin to extricate itself from extensive widespread and deep discounting. That process will continue with the Knight-Ridder papers throughout this year, and you can expect steady as they go going forward from McClatchy on that.

John Janedis - Wachovia Securities

Thank you.

Operator

Our next question comes from Steven Barlow - Prudential Equity.

Steven Barlow - Prudential Equity

Thank you. Pat, can you just talk about what your investment banking fees will be, when those will be paid? Could you discuss a little bit there an amortization thereof? If you could give is some detail on that.

Then Gary, on national ad sales, you obviously have a much bigger platform now. Can you talk about a little bit how you are positioning yourself in your discussions with ad agencies, but also at the same time you do have this interest in newspapers first, which is what Knight-Ridder used? How will that relationship change as you look ahead?

Pat Talamantes

Okay, it's Pat. I'm just looking up the fees from the investment bankers. Basically, all-in for the fees from Credit Suisse, Goldman Sachs and where we stand, I think we paid them all at closing. We've got that all in the debt numbers that you see in the press release. We paid approximately between $50 million and $60 million. The only reason I hesitate is because we had some fees that Knight-Ridder paid prior to closing and I just don't have that at my fingertips.

In addition, we will incur customary fees on the divestitures that we will pick up as well and that's approximately another $8 million in divestiture costs. We also, in terms of our bank agreement, in terms of raising the $3.75 billion in facilities, we paid approximately $27 million to the bank for underwriting those costs so that will all go into purchase price and be written off over time.

Elaine Lintecum

Steve, this is Elaine. Just to clarify, some of the fees were paid by Knight-Ridder and incurred by Knight-Ridder and are expensed to their financial statements and others will be capitalized, and we have not worked through the purchase price accounting. As we indicated, we will give you more updates on those as we move into the third quarter. So, not all of those expenses will be capitalized on McClatchy's books.

Steven Barlow - Prudential Equity

Fair enough.

Gary Pruitt

My conclusion is investment banking is probably a pretty good business, a pretty lucrative business. But I guess at least all of those fees were about 1% of the deal on the McClatchy side. Compared to mutual funds, that's pretty good!

On the national advertising side, Steve, we are now beginning talks with newspapers first and plan to maintain that relationship. We're working more extensively with NNN, the National Newspaper Sales Network provided by NAA, and through our regional representation, we expect greater reach with national advertisers and greater access and we will be working to do that. But all of those are just in process right now.

Steven Barlow - Prudential Equity

Are you encouraged by anything you've seen? Now that you do have a bigger platform, or you think you can get a bigger share of wallet than you have in the past on a property-by-property basis?

Gary Pruitt

I am hopeful that we will be able to do that, especially in a regional approach say in the Carolinas where the smaller papers may been an afterthought before, there's greater access and regional buying from national advertisers, and seeking to make it a little easier buy the those national advertisers. So I expect, over time, we will see national provide a bigger share of advertising for McClatchy as a result of the Knight-Ridder deal.

Steven Barlow - Prudential Equity

Thanks.

Operator

Our next question comes from Lisa Monaco - Morgan Stanley.

Lisa Monaco - Morgan Stanley

Gary, can you give us a little bit more color in terms of pro forma expenses for the year by line item compensation, newsprint and other?

Secondly, just in terms of what you are expecting for the pro forma change in headcount this year, and then thirdly, pro forma for Knight-Ridder, what percentage of your employee base that is unionized now? Thanks.

Gary Pruitt

Okay, well, I think the only one I can really answer is the last one. The percentage of unionized workforce at the conclusion of the deal will be 12%. Currently, we are about 25%, so it will be dropping in half to 12%.

With regard to the others, we are putting all those projections together and we are not going to offer guidance on specific cash expense categories for the year, pro forma. We're going to offer the advertising revenue guidance; that is, we see the second half as better than the first half, back-weighted to the fourth quarter, showing more improvement than the third quarter's improvement.

I guess I would say, just generally, on the expense side, as you saw reflected in our second quarter numbers, if we're not going to experience good, solid advertising revenue growth, then we don't have a choice other than to control expenses, and we will continue to do that.

FTEs were down 3.7% in the second quarter. We expect to see that kind of trend continue, excluding the savings that are coming from the consolidation of the corporate offices of the two companies and the consolidation of Knight-Ridder Digital and McClatchy Interactive. So, you're going to see a continuation of the same kind of expense control McClatchy has had in place, but we're not going to provide specific items by category pro forma.

Lisa Monaco - Morgan Stanley

Okay, great. Then can you just elaborate a little bit on the increase in the bad debt expense in the quarter?

Gary Pruitt

Yes, I think probably best for me to turn it over to the Operating VPs with their particular place or category.

Unidentified Corporate Representative

No one singular event -- some of it is just timing, some of it is adjustments from last year and most of it is across the board.

Gary Pruitt

Most of the increase was in the Carolinas and other increases in California, Minneapolis, but it wasn't one particular large bankruptcy or out-of-business; it was just a little bit of growth across the board.

Lisa Monaco - Morgan Stanley

Okay, thank you.

Operator

Our next question comes from Lauren Fine - Merrill Lynch.

Lauren Fine - Merrill Lynch

If you could just discuss how preprints performed in the quarter and if they were any regional differences. Then on the cost side, the performance was stellar. I'm wondering –

Elaine Lintecum

Hello?

Lauren Fine - Merrill Lynch

Yes, can you hear --?

Gary Pruitt

You know, you got cut off there, Lauren, right when you said performance was stellar. So I don't know what happened after that. So if you don't mind repeating it, and include the stellar part.

Lauren Fine - Merrill Lynch

Sure, I can repeat that. Now, your cost performance in fact was stellar. Was there anything unusual or should we presume that that is sustainable? Then also, if you could talk about differences in pricing between online and print, between classified and retail.

Gary Pruitt

Good, okay. With regard to preprint, preprint is a subcategory within retail, included with ROP, and we had overall preprint revenue growth in the second quarter of 3.2%, and that was rolling over a gain of 6.5% in the second quarter of 2005. Each region had preprint revenue growth: California, 3.3%; Minneapolis, 1.1%; the Northwest, 6.4%; and the Carolinas, 6.0%. This trend in preprint revenue was up compared to the first quarter when we were up 1.7%. The percentage increased, nearly doubled to 3.2%.

We do think that there is going to be some sustainability in this preprint revenue growth, obviously, independent from the growth in Internet retail revenues we were talking about earlier, in part because we are seeing some traction from new sub-zip zoning programs at our papers, and so their popularity should help sustain further preprint growth in the year.

As far as expense goes, you know, I was joking about the stellar stuff. The truth is it was a grind and it wasn't easy. But we didn't have a choice, because revenues were weak and didn't show the kind of growth we would have liked. As a result, we're going to have to keep pressure on expenses until revenues perform better. So you can expect, I think, a similar effort.

There were no extraordinary events that are going to cause results to skew dramatically. On the other hand, I can't guarantee you that we're going to hit at those same levels every quarter, especially as we go through this transition of a major acquisition. It's hard for me to feel confident that we will be at those levels.

I can tell you that but for the acquisition when you look at FTEs down 3.7%, that's the way the 12 McClatchy papers are tracking and that's the way we would expect them to track going forward, perhaps picking up more momentum in that area. So it will be an across-the-board effort on expenses without guaranteeing those exact results going forward.

With regard to online and print, classifieds and retail pricing, I will turn it over to Chris Hendricks, our VP of Interactive Media.

Chris Hendricks

Let's look at Classified advertising first, the three major categories being real estate, automotive and employment. Employment, comparatively, is very strong, and we're talking about primarily liners here because obviously an ROP ad is different; but the liner ad, the comparison is be strong. We've recovered a good deal of money. In some markets, there is parity on the average liner ad versus what we capture online.

Gary Pruitt

Meaning the rates are the same.

Chris Hendricks

Yes, that's correct, meaning the rates are the same. Automotive is good. Online-only compared to a liner ad that comes in is also just about at parity.

Real estate is fair to low because the realtors have traditionally avoided our online-only products and online combo products. They are starting to come back online and we're seeing strong growth in that category. As more and more come on, we will apply our same discipline about price increasing with more advertisers as the consumer side accepts it.

On the retail side, it's a completely different model. There's no real comparison because retail ads tend to be ROP. The model that's we seeing that is working for us is a bundled up sell. We will of course do an internal price for the online piece that is small right now, and as we grow that category, again apply our discipline, our pricing discipline there.

We also have our keyword search, a small but fast-growing piece of the business but the recent press around ad cents and click fraud certainly is not helping our efforts. But it is working, and also the directory services that we are selling.

We also have a lot of different new products that we're selling to advertisers. For example, [inaudible] office in Fresno has purchased a bunch of different creative new online-only opportunities from us that feature advertisements that include video, audio, all sorts of things. So the online-only side of the business is much different than the retail category, so there's no comparison. We are seeing strong growth there.

Gary Pruitt

Within Classifieds, auto and employment online are coming on strong, not quite equal to print ad rates yet. It's getting pretty close, and real estate is still a longer way to go. Retail comparisons are very tough. It's kind of apples and oranges there.

I hope that was comprehensive enough for you, Lauren.

Lauren Fine - Merrill Lynch

Thank you.

Operator

Our next question comes from Debra Schwartz, Credit Suisse.

Debra Schwartz - Credit Suisse First Boston

Yes, I think you said that Online was about 7% of your advertising revenue in the former McClatchy markets. Do you have a sense of what that was for the quarter in the Knight-Ridder markets? Then either Gary or Chris, can you just talk about whether or not the online strategy in the Knight-Ridder markets needs to change at all?

Gary Pruitt

Well, with regard to the 20 Knight-Ridder papers we are keeping, while it's difficult to sort out the exact number as we had calculated at McClatchy, we do know that their Internet share of revenue is higher than that 7%, not dramatically but it is higher. So as a result, it will be greater percentages of ours going forward as well.

They did a good job on national Internet sales, and I also think CareerBuilder helped them on the employment side. So as a result, their percentage of online advertising was greater than our 7%. We would expect, in the new Company, the new McClatchy, that in the first year, pro forma Internet revenues would exceed $200 million with strong growth.

With regard to a change in strategy, I would say that McClatchy has done a good job, perhaps even a better job than Knight-Ridder, in driving some of the local revenue categories, but Knight-Ridder has done a superior job to us in the national Internet sales category. And, as I mentioned, in the employment category. So we think it's a nice congruent fit where we can help each other out, sharing best practices from both sides.

Strategically, in terms of the local web sites, McClatchy, while it does provide centralized Web-publishing tools and hosting, we provide greater flexibility for the local papers to produce their own look and feel to their web sites. That would probably be a strategic difference, at least for the users and readers of those web sites locally. We will be transitioning that over the course of the first year of our ownership of Knight-Ridder.

Debra Schwartz - Credit Suisse First Boston

Great, thank you.

Operator

Our next question comes from Phil Preuss - UBS.

Phil Preuss– UBS

The question is, just from a capital structure perspective, can you maybe give us updated thoughts on what your plans are for permanent financing, specifically a fair amount of debt is outstanding on the bank line. Would it be your intention to look to refinance that in the public market?

Gary Pruitt

Well, you know, when we finish the divestitures and pay all of the taxes and do all of that, we're going to have about an equal amount of debt in bonds and an equal amount in bank debt. The bonds have various durations, and we don't anticipate refinancing any of that bank debt into bonds.

Rather, as the bonds mature, paying them off and we will be paying down the bank debt as we go. So as we project out, there actually remains a rough equality between that bond debt and the bank debt that we think makes sense. We will focus, at least in the early years, exclusively on paying down debt.

The first bonds I think become due -- is it '08?

Elaine Lintecum

'07.

Gary Pruitt

In '07? And it's a couple hundred million?

Pat Talamantes

Right, at the end of '07.

Gary Pruitt

At the end of '07, a couple of hundred million come due. We will take those out, but and that will remain at that rough equilibrium of bank and bond debt and see that going forward.

Phil Preuss– UBS

As a follow-up, when you think of the balance sheet, what is your target leverage range? Therefore, at what point do you think you will be able to use free cash flow for something other than debt reduction?

Gary Pruitt

Well, we expect that free cash flow will be used for debt reduction virtually exclusively in the first few years now going forward. Then, without a specific target in mind, as we get into beyond 2010, we will look at balancing that debt repayment with share repurchase, depending on interest rates, stock price, et cetera, and view ourselves as having, for the first time in the long time, a good use of our cash for as far out as we can project between debt repayment and stock repurchase. You can expect those uses of cash for McClatchy for the rest of [inaudible].

Phil Preuss– UBS

On the leverage target question, what's the comfort range or where would you like to see that get down to?

Gary Pruitt

We don't have a specific target, we are really disinclined to buy back stock when we are about 4 times, when debt is about four times cash flow, where we are now. That's why I said that our plans are, absent extraordinary events, to repay debt exclusively for a few years and get it closer to two times cash flow.

Phil Preuss– UBS

All right, thanks.

Operator

Our next question comes from Craig Huber - Lehman Brothers.

Craig Huber - Lehman Brothers

Yes, good morning. Thank you. Is it possible for you to give us the quarterly D&A for the combined Company? That's the first question.

Secondly, what is your CapEx assumption for this year, including the six months of Knight-Ridder and also for all of '07? I have a couple of follow-ups. Thanks.

Gary Pruitt

Craig, was it depreciation or was it D&A?

Craig Huber - Lehman Brothers

I'm sorry, your total D&A quarterly for the combined Company.

Gary Pruitt

I think we can give you through the second half. We can give you a range.

Pat Talamantes

Yes, for the second half, Craig, it's going to be between $95 million to $98 million for the second half, that is both depreciation and amortization. That includes the incremental D&A from the purchase price accounting.

Gary Pruitt

Then your other question, Craig, was capital expenditures in '06 actual?

Craig Huber - Lehman Brothers

Yes, including the six months, obviously full Company for next year.

Elaine Lintecum

I think, on an annualized basis, we've indicated that CapEx would be in the $100 million range. We haven't gotten to specific projections for the second half yet.

Gary Pruitt

No. Well, $100 million in out years, beginning in '07 and '08, generally are approximately in the $100 million range. In '06, year-to-date we are at $24 million, so you could expect that we might be in around $70 million or so, $70 million to $80 million for the full year, tracking on that same run rate.

Pat Talamantes

Craig, that includes capital that Knight-Ridder would have spent on a pro forma basis.

Craig Huber - Lehman Brothers

Okay. Can you repeat your comments or elaborate a little further about your second-half outlook for advertising? I'm just curious. What gives you confidence for the next six months here? It's obviously been very tough out there for the whole industry, but the Fed seems really bent here on slowing the economy significantly. You alluded to very loudly how help wanted is slowing, in past cycles, as the precursor to a much slower economy if not a recession.

Can you just tell me what your confidence is about the second half of this year? Because obviously it's out of your control, but --

Gary Pruitt

Yes. Well, here's the way we see it. We see the third quarter -- we were between 1% and 2% in ad revenue growth two quarters, 1.3%, 1.4%, right in that range. Third quarter, we kind of see similar to that, so it's not like we are projecting a robust recovery.

We think the fourth quarter can be better. Comps are easing for us in the fourth quarter, and we think that that will give us some lift overall. We think comps are easing in automotive; they are tough in real estate, they probably offset one another. We think that some of the growth in retail is sustainable in the preprint and online area especially. Direct marketing and online remain strong double-digit growth for us as some of the comps ease on some of the print side, particularly in the fourth quarter.

So it's not as if we are predicting robust growth in the second half; I want to be clear about that. We see similar trends in the third quarter and some improvement in the fourth quarter. Then we're going to do our best on the expense side.

Craig Huber - Lehman Brothers

Okay, I'm glad you brought up expenses. You've talked about $60 million of cost. What's your chances that you can get that number to $100 million, $125 million of cost savings with Knight-Ridder? I mean, $60 million seems like it's very low.

Gary Pruitt

Well, the papers that we are acquiring were among the best-performing of the Knight-Ridder papers, and so they have generally high margins to begin with. So, there may be some cost savings as a result of some regional efforts with the papers, and there are some of those; and they are revenue opportunities at the paper level for sure.

But the overwhelming majority of the cost savings are coming from corporate and from KRD, Knight-Ridder Digital, as we merge it with McClatchy Interactive. We think $60 million is the right number there. We are confident of that $60 million. We are hopeful that it will be higher, but I don't feel comfortable at this time providing a higher figure. We certainly don't feel comfortable talking about $100 million or $120 million in cost savings, but we will give you updates on that as we go forward.

Craig Huber - Lehman Brothers

Haven't you said in the past, $40 million of cost savings having to do with corporate and $10 million or $15 million having to do with Internet, which leaves you $5 million to $10 million of the newspapers. I mean, that little slug at the end of it seems very low, no?

Gary Pruitt

Yes, that's exactly the breakdown we've talked about in the past. I hope that little slug at the end is low, but we are unwilling to suggest or provide that at this point. We will give updates as we move forward. As we said, we expect to capture $20 million to $25 million in synergies in the second half. That's not quite that one-half run-rate. We've captured the corporate synergies. We are in transition with Knight-Ridder Digital and McClatchy Interactive. We will capture the rest of that as we get through the first half of our ownership of Knight-Ridder in the second half of '06.

We will be working with the papers on an ongoing basis, so we will have to see and we will give you a full update on the synergies as we move forward. I hope you are right. We are confident at $60 million, and if we can deliver more, we will, but we don't want to promise it.

Craig Huber - Lehman Brothers

Thank you, Gary.

Operator

Our next question comes from Christa Sober Quarles - Thomas Weisel.

Christa Sober Quarles - Thomas Weisel

Just two questions, one quick follow-up on the synergies side. I was just wondering if you feel that, now that you are a much larger Company, that you'll get some newsprint leverage with the producers?

The second question really stems on the real estate, I know you didn't give them mixes by region, but I would assume California was still very, very strong. I was wondering if you could give that? But then I thought it was also interesting that the off-line was actually stronger than the online in real estate.

It sounds like, Chris, you were indicating that at some point that might start to reverse itself. If you could just give us I guess more of an update on the real estate side. Thanks.

Gary Pruitt

Okay. Well, let's start with newsprint. Any synergy on the newsprint side will be small. McClatchy and Knight-Ridder had similar pricing. We may have a little more leverage going forward, but we found out that we were doing a pretty good job on newsprint pricing as part of the acquisition.

Christa Sober Quarles - Thomas Weisel

Good for you.

Gary Pruitt

Yes, It kind of cuts both ways. I don't know if that's good or bad, but it is.

With regard to real estate, you are exactly right. California was scorching, again. California second quarter was up 49.8%, 50% gain and that is after a 50% gain in the first quarter. That was rolling over 20% to 30% gains the prior year, so that's not sustainable. We think that will slow.

We've already seen some slowing at the Star Tribune, where they were down 4.6% in the second quarter, rolling over a 20% comp. The Northwest was up 0.2%, rolling over a 7.9% comp, and the Carolinas were up 10.1% and they were rolling over only a 3.5% comp. So that all totals to real estate being up 19.9%, nearly 20% floating over a comp of 17.9%.

The comps get a little tougher in the second half, particularly in California, but overall for the Company, they go up to around 20% to 22%. So they are getting harder but not significantly harder. In the Carolinas, the comps stayed fairly easy. California, very difficult. We think California will slow just because it can't sustain that level.

We think real estate will continue to grow, but just at a slower rate. We are hopeful that automotive will do a little better as real estate growth slows and they tend to offset one another. We will see how that plays out.

Chris' reference to print real estate outdistancing online real estate and future look there, Chris I will turn it over to you.

Chris Hendricks

Yes, right now, we are aggressively pursuing more MLS and realtor relationships and also increasing our product suite for the realtors as they come back to the newspaper. But it is a difficult challenge because, historically, they have not used us in the online space, and their competitive solutions not only at the regional MLS level but also at Realtor.com.

That hasn't stopped us, however, and year-to-date, this is the fastest growing of the major categories in the classified categories. I would say that we expect that as an upward pass and that next year, we would see much more revenue coming in from the online side.

Gary Pruitt

What has been the percentage growth?

Chris Hendricks

That is about 17.5%, there's been a slight slow down compared to the run-rate but it really has to do with the tough comps year-over-year. About 20% year-to-date.

Gary Pruitt

Does that address your question, Christa?

Christa Sober Quarles - Thomas Weisel

In a real estate contraction I guess, would you expect that they would then rethink some of their online strategies, or I guess how would you prepare for that?

Chris Hendricks

Actually, I think the reverse. At this given moment, you'd think the reverse because of the pricing of the products that are available online, that's a transition question. They are still betting on print because it works for them and because it works for the consumers.

We will continue to capture both but I certainly hope that, as time goes on, as they start putting their dollars elsewhere because of expense costs, they will come to us for the online products.

Christa Sober Quarles - Thomas Weisel

Okay, thanks.

Gary Pruitt

Thank you.

Operator

Our next question comes from Thomas Russo - Gardner Russo & Gardner.

Thomas Russo - Gardner Russo & Gardner

Hi, Gary. First, congratulations. Nobody has really taken a moment to congratulate you and your team on the closing of an enormously complicated transaction, delivering on-time at expectations, to schedule, against all odds. So, congratulations.

Gary Pruitt

Thank you very much. I appreciate that.

Thomas Russo - Gardner Russo & Gardner

Yes. Then, obviously, you've worked enormously hard and I sense there's a bit of fatigue in your voice, so I will start with a question that's intended as a joke. You describe the stock-based competition impact on salaries. I don't quite have the numbers, but it sounded like payroll was up 0.9%, but excluding stock-based compensation, I didn't hear what it was.

Gary Pruitt

Okay, yes, let me give you those numbers so that you have them. I will give them all comprehensively to you.

Thomas Russo - Gardner Russo & Gardner

Gary, you don't have to. My only point is going to be following: with the stock declining so sharply, you would think that the addition of stock-based compensation would be a negative expense. That's my only thought.

Gary Pruitt

Yes, it doesn't work that way.

Thomas Russo - Gardner Russo & Gardner

I gathered it doesn't. A couple of quick questions on a more serious note, and congratulations for closing the deal.

But first, what impact might you see from a different deal that's been announced, that may or may not close but it's the ADVO Valassis deal. Any peripheral view on that and the consequence it might have on your business?

Gary Pruitt

Sure, Sure. Just to close the loop, the payroll was up 0.9. If you excluding stock option expense it was down 0.7.

Thomas Russo - Gardner Russo & Gardner

It's just an odd way of thinking. In fact, it did raise the general question going forward, though. What will McClatchy's plans for using stock-based compensation be?

Gary Pruitt

Yes, we will not change our philosophical approach, and so you can expect a kind of a similar percentage offering in terms of stock-based compensation going forward of similar percentage expense rate for that.

Thomas Russo - Gardner Russo & Gardner

Good.

Gary Pruitt

With regard to-- I'm sorry?

Elaine Lintecum

ADVO Valassis.

Gary Pruitt

Yes, ADVO Valassis. We've had a very strong and long relationship with Valassis as a major advertiser, insert advertiser. So, the merger of Valassis and ADVO on its surface is a warning sign because obviously ADVO is a distribution company and Valassis has an option right now within its own company for distribution. So, that raises a red flag with us. Of course, we have contractual relationships with Valassis and Valassis has to consider their own business. Newspaper distribution is cheaper than direct-mail; newspaper distribution is more effective for the advertisers than direct-mail.

So, they've got to figure what works first and foremost for their customers perhaps more than what works first and foremost for their new corporate partner. But you know, it's too early to tell exactly what it means, but we believe that Valassis will have to make decisions in the best interests of its customers, and we believe we stack up very well there, both in terms of costs and in terms of results.

Thomas Russo - Gardner Russo & Gardner

Thank you, Gary. In merging Knight-Ridder into McClatchy, what happens with their previous pension and healthcare costs? How do you find them, the profile to those expenses to be relative to McClatchy's?

Gary Pruitt

Pat, do you want to address the pension.

Pat Talamantes

Sure. On the pension side, we were pretty successful in getting rid some of the union-related pension plans that were associated with the divested papers, and so as a result if you look at the 10-K --

Thomas Russo - Gardner Russo & Gardner

Hello?

Gary Pruitt

Tom, can you hear us?

Thomas Russo - Gardner Russo & Gardner

Yes I can. Yes, sorry.

Pat Talamantes

We did a pretty good job of getting rid of a few of the plans that were related to some of the unions in the divested papers. If you look at the 10-K at the end of the year, the funded status, relative on AVO basis relative to those brands and relative to Knight-Ridder, has come down quite a bit. It's $136 million, again on an AVO basis, negative at Knight-Ridder. Then we've got some nonqualified plans that we retained of $64 million, so we've done a pretty good job of that.

In terms of the pension cost going forward, a couple of the factors that we see is obviously interest rates have moved higher, which will increase discount rates. We expect to decrease or at least lessen the rate of growth on the expense side.

The other factor that is related to purchase price accounting and pensions is that some of the amortization of losses from prior years at Knight-Ridder that they've been having to eat over time as a result of purchase price accounting, we no longer have that issue.

We get sort of a fresh start from that perspective, so we do expect sort of a good news story on pensions from those two factors, and of course, the discount rates will help McClatchy as well.

Thomas Russo - Gardner Russo & Gardner

Absolutely, thank you. Pat, while I've got you, what are you doing to protect yourself against the threat of rising interest rates on the bank portion of your retained liability?

Pat Talamantes

Well, you know, Tom, as we mentioned earlier in the call, we expect, by the end of the year, to be pretty close to 50-50 in terms of floating-rate bank debt and the fixed-rate bonds. We've found that, over time, that's a good place to be. Our business does provide a bit of a natural hedge on interest rates over periods of time.

We're comfortable with that number at this point. Obviously, interest rates have risen since the time that we announced the deal.

Thomas Russo - Gardner Russo & Gardner

Yes.

Pat Talamantes

That is already a fact of life for us. You know, 50-50 should give us a pretty good opportunity to recoup on the other side of the cycle.

Thomas Russo - Gardner Russo & Gardner

So rather than hedge out to a longer-term profile your bank debt, you will just allow the bank pay down schedule plus the fixed on the 50% bonded debt to protect you against rising rates?

Pat Talamantes

Right, our free cash flow is a pretty good hedge in and of itself.

Thomas Russo - Gardner Russo & Gardner

Then for the capital -- for the D&A going forward, is it running at $200 million? I know you said $98 million for a second half of this year. What will your run-rate be going forward compared to that $100 million worth of cap spending required?

Pat Talamantes

It will be about the same, Tom.

Thomas Russo - Gardner Russo & Gardner

So the D&A will run around $200 million a year?

Pat Talamantes

That's right, a little under.

Gary Pruitt

A little under $200 million a year. Tom, with regard to the healthcare question you asked, McClatchy and Knight-Ridder had similar approaches to health insurance -- that is a large national provider -- and similar insurance, and therefore as a result, roughly similar costs.

Thomas Russo - Gardner Russo & Gardner

Thank you. Last question, Gary. The discussion at mid-year with media this year seemed to have a much more optimistic and forward-looking view of online and the value that purely local-reach newspapers provide to online advertisers.

There has been some discussion about non-CareerBuilder affiliations. I wonder if you can describe your sense of finding affiliations with other vendors for the online values that you offer.

Gary Pruitt

We're very optimistic about our local media strategy, particularly being the leading local online site in each of these growth markets. We think there is a big future there, strong growth there, a very lucrative position to be in.

We think that the future involves partnerships with other technology companies. As we see ourselves as largely a media company and while we will obviously have some technology and develop more technology and publishing tools, long-term, we see technological partnerships to maintain best-to-breed products in various verticals with news and advertising and that those could be large technology, national technology companies, as well as specialized companies and in particular categories.

Chris, did you have anything to add?

Chris Hendricks

You've covered it well.

Thomas Russo - Gardner Russo & Gardner

Gary, you say best in breed in the new side. I suspect you might have in mind something to do with mobile content as well as how it's delivered desktop?

Chris Hendricks

Absolutely. We look for multiple distribution channels. We want the platform agnostic in a sense and wherever our content can go, we will push it there where we believe there is a business case that warrants it and where consumers are accepting it.

Thomas Russo - Gardner Russo & Gardner

Thank you, Chris and again Gary, congratulations for getting the job done.

Gary Pruitt

Thanks, Tom. Now it's time to deliver. We're going to do our best.

Operator

Our next question comes from Paul Ginocchio - Deutsche Bank.

Paul Ginocchio - Deutsche Bank

Thanks, just two quick ones. Can we talk about severance in the second half of '06, what we should expect? Then second, Chris, on Real Cities, any sort of what have you found, what's the size of the relative to the overall online revenues and what's the plan for going forward? Thanks.

Gary Pruitt

Thanks, Paul. With regard to severance, Pat, do you want to address that?

Pat Talamantes

There will be some severance liabilities that will be incurred at the time of the sale. Those will largely relate to the corporate operations, and those will generally be in the $115 million range, again primarily related to the corporate operations.

Then on the paper level, we don't really have anything of consequence on that side because we are taking on their operations and there aren't going to be big changes there.

Paul Ginocchio - Deutsche Bank

It sounds like parachutes went from gold to platinum.

Pat Talamantes

Gary, your comment.

Gary Pruitt

I don't know. You can guess the adjective or the metal involved. We're just paying it.

Paul Ginocchio - Deutsche Bank

Then on Real Cities?

Gary Pruitt

Yes, Paul, our intention is to continue to grow Real Cities, get more partnerships. I'm already in discussion with many players in the industry about Real Cities to grow that. There's also discussions about providing other platforms beyond just serving as an advertising network, too.

As far as talking about the numbers, it's kind of difficult to do it now because we have 12 divested papers going in and the way the relationship works is Real Cities retained 15% of the revenue that came in, and then the 85% was distributed through partners, so we lose a lot of revenue going in and out; there's an in-and-out going on. We're trying to get our arms around what that means for projecting. But it is a good business and we would like to keep the business, grow the business and also enhance the product sets for it.

Gary Pruitt

We think, as local web sites mature and become more lucrative and as the Internet matures and gets more national advertising, Real Cities as that leading local Web site network in the country stands to gain dramatically. So we're very optimistic about Real Cities' future. We will have to keep you updated.

Paul Ginocchio - Deutsche Bank

Can you just talk about size relative to that $200 million of online revs, the size that you keep on your P&L?

Gary Pruitt

It's probably somewhere in the 10% range.

Paul Ginocchio - Deutsche Bank

Great, thank you.

Operator

Yes, your next question comes from Jason Harris.

Jason Harris - Analyst

Good morning. Gary, if we go back to the period from 2002-2005 when you were relatively inactive in the acquisition world, the Company's revenue increased by $118 million and the operating cash flow increased by about $19 million in that period. I guess we could call the organic growth of the business, excluding Mircette.

So that rate, the margin on that incremental revenue was 16%, which is roughly half of your overall EBITDA margin. I just wonder how you square that with your view of newspapers, as the last or the least fragmented of the media industry, and where the power for that comes in relation to the numbers that you cite?

Gary Pruitt

Well, I think that newspapers do remain that last mass medium locally and the least fragmented, which is an advantageous position compared to our competitors that are suffering more precipitous declines in audience. Our audience is actually growing when looking at print and online combined on an unduplicated basis. So we think that gives us a strong position.

Then we also have the ability to leverage off our core more efficiently to create niche products for local online sites more efficiently than any of our competitors, so that with the direct-mail niche products, the core newspaper, the web site, we are the leading local media company in our market. Our markets are growing 50% faster than the U.S. average. So, we are optimistic from that front.

Does that mean it's easy? No. It's very tough because there are more media competitors than ever before, and the operating environment is tough currently. So we are fighting for every dollar and every competitive dollar out there. In our markets, the pie is growing and we're hoping to gain share as the growing pie goes, and remain very efficient.

The figures you cited of growth in that period, while at a lower margin than McClatchy at that time or McClatchy at this time, were among the best growth figures in the industry in those years.

So, we're certainly not embarrassed or ashamed by those growth figures in '02, '03, '04 because we were probably showing some of the best organic growth in the industry. In fact, in those years, we were out-distancing our competitors in ad revenue performance.

We expect to continue to do so going forward, so we expect our organic growth to be faster than the industry, and we expect our margins to stay high, given our markets and our track record.

But I don't think the two are necessarily inconsistent. You know, you said square them. I don't necessarily think it is inconsistent that we had again growth, albeit at lower margins in a very difficult operating environment, and still maintained our leadership locally.

Jason Harris - Analyst

Thanks. Would you expect that to improve or do you think that's a reasonable way to view organic growth for the business going forward?

Gary Pruitt

No, I don't think that you can apply the organic growth figures in '02, '03, '04 and think that they will be similar or in the same margin going forward. You know, if they do, it would be coincidental. But it seems to me the environment is different. In some ways, it's more advantageous on the Internet; in other ways, it's more difficult with print circulation declines. So, I think it's a different mix.

We do expect organic growth. We're not giving projections but we do expect that we will generate cash flow growth, earnings growth going forward and the Knight-Ridder acquisition will be strongly accretive.

Jason Harris - Analyst

Thank you, and all the best.

Gary Pruitt

Thank you, Jim.

Operator

Our next question comes from Chitra Sundaram - Cardinal Capital.

Chitra Sundaram - Cardinal Capital

I just wondered if you could give us the cash balance at the end of the quarter? Do you have cash flow from operations maybe year-to-date? That's it.

Gary Pruitt

Okay, well, I will turn it over to our financial guru. I can give you cash flow year-to-date.

Pat Talamantes

The cash balance at the end of the period was $5.9 million. Cash flow from operations we're working out. Cash provided by operating activities -- I have only got it for the year-to-date, unfortunately. I don't have it for the quarter – it was $85.9 million.

Chitra Sundaram - Cardinal Capital

Thank you very much.

Operator

Our next question comes from Edward Atorino - Benchmark Capital.

Edward Atorino - Benchmark Capital

Sorry to prolong this. Would you repeat the online revenues on a combined basis for the Knight-Ridder and McClatchy papers, and what the growth rate is for that number?

Gary Pruitt

In the second quarter pro forma, it was $54 million which was up about 32%.

Edward Atorino - Benchmark Capital

About a $200 million annual rate, roughly?

Gary Pruitt

Yes, yes. Year-to-date, it was $95 million, up about 36%.

Edward Atorino - Benchmark Capital

Got you. That's fine. Thank you very much.

Operator

At this time, there are no further questions in queue.

Gary Pruitt

I can't believe it's over. We were so looking forward to more questions and going for another 90 minutes, but if you're tapped out, so are we. Thanks a lot for being with us on the conference call. We look forward to delivering going forward on the deal. Thanks very much.

Operator

This concludes today's conference call. You may now disconnect.

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Source: The McClatchy Company Q2 2006 Earnings Conference Call Transcript (MNI)
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