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The McClatchy Company (NYSE:MNI)

Q3 2006 Earnings Call

October 17, 2006 12:00 pm ET

Executives

Elaine Lintecum - Treasurer

Gary B. Pruitt - Chairman of the Board, President and Chief Executive Officer

Patrick J. Talamantes - Vice President, Finance and Chief Financial Officer

Robert J. Weil - Vice President, Operations

Chris Hendricks - Vice President, Interactive Media

Frank Whittaker - Vice President, Operations

Analysts

Peter Appert - Goldman Sachs

Steven Barlow - Prudential Equity Group

Craig Huber - Lehman Brothers

Lauren Fine - Merrill Lynch

Paul Ginocchio - Deutsche Bank

Robert Schiffman - Credit Suisse

Brian Shipman - UBS

Christa Sober Quarles - Thomas Weisel Partners

Thomas Russo - Gardner, Russo & Gardner

Edward Atorino - Benchmark Capital

Lisa Monaco - Morgan Stanley

Scott Shiffman – Lehman Brothers

Nicole Black - Wachovia Capital M

Presentation

Operator

Good afternoon. My name is Indra and I will be your conference operator today. At this time, I would like to welcome everyone to the McClatchy third quarter 2006 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker’s remarks, there will be a question-and-answer session.

(Operator Instructions)

I would now like to turn the call over to Elaine Lintecum, Treasure for the McClatchy Company. Ms. Lintecum, you may begin your conference.

Elaine Lintecum

Thanks, Indra, and thank you all for joining us today for our third quarter conference call. The call is being webcast at mcclatchy.com and will be archived for future reference. Joining me this morning is Gary Pruitt, our Chairman and CEO; our Vice President of Operations, Lynn Dickerson, Bob Weil, and Frank Whittaker; our Vice President of Interactive Media, Chris Hendricks; and our CFO, Pat Talamantes. We are all available for questions at the end of Gary’s remarks. I will also be available after the call and can be reached at 916-321-1846.

Our earnings release and statistical report were issued this morning before the market opened, and I hope you have had time to review them. The release includes a summary of unaudited results, which has reported financial results for 2006 third quarter including the operations of the newly acquired Knight Ridder newspapers. Our statistical report shows revenues of the new McClatchy as if the 20 additional newspapers had been included in our results since the beginning of all periods presented. Full text of our release and this statistical report are posted on First Call, and on our website for your convenience.

We have also posted a reconciliation of our Pro Forma 2006 revenues to GAAP reported 2006 revenues on our website.

As a reminder, this call will contain forward-looking statements that are subject to risks and uncertainties, including, among others, those described in the company’s 2006 interim filings with the SEC. Actual results may differ materially from those described during this call.

Now, here is Gary Pruitt, our CEO.

Gary B. Pruitt

Good morning. As many of you know, this is our inaugural quarter to report as the new McClatchy, publisher of 32 newspapers in high-growth markets. We have completed the acquisition of Knight Ridder, including the sale of 12 former Knight Ridder newspapers that did not fit our strategy, and the sale of part of our interest in CareerBuilder and certain other Internet assets, owned in partnership with Gannett and Tribune.

We are pleased to have executed on the disposition of the 12 newspapers for prices within the range we expected, and to continue as the 15% owner of CareerBuilder, putting to rest the uncertainties surrounding that investment.

We reported third quarter earnings of $51.8 million, or $0.64 per share. Earnings included a loss from discontinued operations of $8.9 million, or $0.11 per share, related to 8 of the 12 sold newspapers, and a pre-tax gain of $9 million related to the sale of land in Rosedale, California.

There are a number of items that impacted our earnings this quarter, and make understanding our results more complicated. I will review the list with you in just a moment. But let me warn you -- that list will make this earnings call even longer and more tedious than usual. For those of you who have listened in the past, you know that is saying a lot.

But the most important number I think you should focus on is our income from ongoing operations. Our income from continuing operations was $60.7 million, or $0.75 per share, and was $55.2 million, or $0.68 per share, excluding the gain on the land sale.

The following items related to the Knight Ridder acquisition and other matters impacted our 2006 third quarter results:

  1. We issued 35.0 million class A shares in connection with the acquisition. As a result, the weighted average diluted shares used to calculate earnings per share increased to 81.2 million shares in the third quarter, and increased to 58.4 million shares in the nine-month period, compared to 47.0 million shares in 2005. So the relationship between earnings and earnings per share is no longer linear, until we cycle on the issuance of these shares;
  2. Eight of the 12 sold newspapers were held for periods ranging from two to 36 days following the closing of the Knight Ridder acquisition. Their results, including the up-front bank fees and interest expense on debt carried until their sales, are reported as discontinued operations;
  3. As I mentioned earlier, we sold part of our interest in CareerBuilder and certain other Internet assets for $310 million, and used the proceeds to repay debt. We retained a 15% ownership in CareerBuilder and an interest in other Internet investments;
  4. We sold land in Rosedale, California that had been held since 1996, for $10.7 million and used the proceeds to reduce debt. We recorded a pre-tax gain of $9 million on the sale in the third quarter of 2006;
  5. We began recording stock-based compensation at the beginning of fiscal 2006 and expensed $1.8 million or $0.01 per share of stock, of stock-related compensation in the third quarter;
  6. As a result of the Knight Ridder acquisition, we have added operations in states with lower tax rates than some of our existing markets. As a result, we were required to revalue our deferred tax liabilities and assets at our new lower effective state tax rate. This resulted in a reduction to the third quarter tax provision of $5.9 million, so our net tax rate in the third quarter was only 31.5%. Our effective tax rate for future years is expected to be in the 39% to 39.5% range.
  7. The 20 former Knight Ridder newspapers had recorded approximately $4.4 million in deferred CareerBuilder online employment revenues, which we were required to value at zero. This resulted in a reduction of about $4 million in third quarter online employment advertising revenues that would have been recognized had there not been a change in control. As a result, third quarter employment revenues and online advertising revenues understated underlying business conditions; and last
  8. We have allocated the Knight Ridder purchase price to the acquired assets and liability based upon their estimated fair market value as of June 27, 2006, pursuant to the results of an ongoing independent appraisal. The amounts allocated to identifiable intangible and fixed assets were lower than the preliminary estimates that were used in the Form S-4. As a result, amortization and depreciation expense is lower than expected.

Those items make our third quarter results somewhat more difficult to understand and are on top of an operating environment that is quite challenging. Still, it is important not to lose site of the fact that we now own the largest media company in 30 high-growth markets throughout the country.

To see how we have done in the third quarter, we will start with our revenue performance. Revenues for the newly combined company were $680.9 million in the third quarter, with advertising revenues at $575.9 million and circulation revenues at $86.0 million.

On a pro forma basis, including the 20 former Knight Ridder newspapers in the third quarter of 2005, total revenues were down $9.3 million, or 1.4%, with advertising revenues down $4.6 million, or 0.8%. The decline in advertising revenues reflects the difficult advertising environment facing all media companies. In addition, our reported revenues were adversely impacted by the $4 million in prepaid online advertisements placed through CareerBuilder at the former Knight Ridder newspapers which were unable to be recognized in the quarter due to the change in control.

Had this revenue been recognized in the normal course of business, our total pro forma revenues would have been down only 0.7%, and our pro forma advertising revenues would have been nearly even with last year.

While we continue to see advertising revenue growth in our newspapers in California, Florida, and the Northwest, total advertising was pulled down by the Midwest and, to a lesser extent, other regions.

Online advertising, direct marketing, and retail continued to show strength, while classified print advertising and national advertising declined.

Let’s look at revenues by category, starting with retail. We were pleased to see a rebound in this area. Retail advertising was up 1.3% on a pro forma basis. The strongest performers were our newspapers in California, Florida, and the Northwest. Newspapers in the Midwest and Texas pulled down our growth. Online retail advertising has been growing nicely, up 81.5% in the quarter, as our local retail initiatives online have begun to gain traction.

Turning to classified advertising, classified advertising was a mixed bag, with strength in real estate offset by poor results in auto and employment advertising. Overall, classified was down 2.8% on a pro forma basis.

First, let’s look at employment under classified. The newspaper industry is experiencing a slowdown in employment advertising that began late in the second quarter and continued in the third quarter. In the third quarter, pro forma employment advertising declined 7.9% at our newspapers compared to growth of 17.9% in 2005. This category was impacted by the accounting of prepaid online advertising I had mentioned earlier. Had this advertising been recognized in the third quarter, pro forma employment revenues would have declined only 3.3%.

Next, classified automotive. Automotive advertising declined 9.4% compared to a 10.5% decline in the third quarter 2005 pro forma advertising.

Finally, the real estate classifieds, real estate advertising was up 10.7%, with strength in all but the Midwest and Texas newspapers.

Turning next to national advertising, national advertising declined 10.4% on a pro forma basis in the third quarter, compared to 6.7% growth in 2005. Our performance was hurt by losses in telecommunications and national automotive advertising, trends we are seeing industry wide.

While we have included -- online results were included in those results we just discussed, but we wanted to give you a sense of how we are doing on the online advertising, broken out separately.

On a pro forma basis, online advertising increased 16.3%, and would have been up roughly 26% but for the purchase price accounting treatment that affected prepaid CareerBuilder advertising. Our pro forma employment online advertising grew at a reported 4.7% and would have been about 23% in the quarter if not for that issue.

We believe the run rate in online advertising is more in line with our first-half growth rate of 30%-plus than the reported pro forma third quarter rate.

Interactive advertising revenues continued to grow in importance. They were 8.2% of total advertising revenues in the third quarter and on a year-to-date pro forma basis.

The interactive assets we have added in the Knight Ridder acquisition, along with an already successful interactive operation at McClatchy, position us well for greater growth in interactive revenues and product offerings at the new McClatchy going forward.

Turning next to direct marketing, our pro forma direct marketing advertising revenues grew 14.6% in the quarter, led by our newspapers in California, the Midwest, and Texas. We will continue to look for other opportunities to expand our direct marketing efforts at our newly acquired papers.

Circulation revenues were up $46.0 million due to the addition of the new newspapers. Circulation revenues declined 4.2% on a pro forma basis in the third quarter. Much of the decline reflects lower volumes and, in particular, greater volume declines in Sunday single copy than in home delivered newspapers. On a pro forma basis, our daily circulation declined 3.6% and Sunday declined 4.1% in the quarter. More than one-third of our daily circulation decline and one-fifth of our Sunday circulation decline resulted from planned reductions in specific categories, which our advertisers have said do not deliver much value to them, including third-party sales.

Circulation revenues have also been impacted by reorganizations in Minneapolis to move to independent contractors from employee delivery, which results in a reduction to both circulation revenues and expenses.

We have also focused on a strategy to attract readers to our newspapers and users to our online sites. We believe it is important to focus on the growth of our total audience. In fact, we are indeed growing our total audience in our local markets.

Expenses we will turn to next. Total operating expenses increased $325.2 million, due to the addition of the newly acquired newspapers, and were up $6.0 million, or 1.1% on a pro forma basis, primarily due to the increased depreciation and amortization related to the acquisition. In addition, $1.8 million, or $0.01 per share, was recorded in the second quarter related to expensing stock-related compensation.

On a pro forma basis, cash expenses declined 0.8% as we continue to reign in costs during this tough advertising environment and realize synergies from the acquisition.

Compensation costs on a pro forma basis were down 3.1%. Salaries declined 1.5%, and were down 2.2%, excluding the impact of stock-related compensation. FTEs for the quarter were down 4.5%. Fringe benefit costs declined 8.9%.

Newsprint and supplement costs rose 2.8% on a pro forma basis, reflecting higher per ton prices, partially offset by lower usage.

All other cash expenses increased 1.1% on a pro forma basis.

Reported depreciation and amortization expense increased $24 million due to the inclusion of the new newspapers and the write-up of assets in the purchase price accounting for the acquisition, partially offset by about a $3 million reduction at our existing papers.

The values of assets and liabilities are still being reviewed and are subject to change as we complete the valuation process. Nonetheless, amortization and depreciation added in the acquisition is expected to be about the same as it is in the third quarter, roughly $27 million quarterly.

Net interest expense for continuing operations were $46.4 million. The company’s net debt balance at the end of the quarter was $2.5 billion.

In mid-December, we expect to use all of our excess cash, and to draw down on the revolver to pay taxes, including taxes due on the sale, on the tax gains on the sale to 12 newspapers and other sales.

As a results, we expect debt at the end of 2006 to be approximately $3.3 billion. Our effective interest rate is about 6.5%.

As a result of the Knight Ridder acquisition, we gained an ownership interest, or increased our existing ownership, in a number of valuable companies. Income from the two newsprint operations, SP and Ponderay, were offset by losses from the other companies, the largest of which are CareerBuilder, Classified Ventures, and the Seattle Times Company. The net loss for the quarter totaled $811,000. We expect our share of net losses to be slightly greater in the fourth quarter from these companies.

As we look to the fourth quarter, we anticipated continued slowing in the overall advertising environment. Retail advertising is showing relative strength. We expect growth in real estate advertising, although at diminishing rates. Auto remains weak, although improving, and employment has slowed at most papers. We expect online and direct marketing advertising to remain strong, offsetting some of the classified weakness.

We understand that this environment of sluggish advertising requires vigilance on costs. It also demands innovation in driving advertising revenue. You can count on us for both, as we chart a steady course for long-term gain that will benefit our company and our shareholders. We are pleased to be doing so from a stronger base of the new McClatchy.

Thank you, and I will now be happy to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions)

Our first question comes from the line of Peter Appert.

Peter Appert - Goldman Sachs

Good morning. Gary or Pat, could you give us any help in terms of a specific estimate in terms of what interest expense line item might look like in the fourth quarter and then into ’08?

Patrick J. Talamantes

Sure, thanks, Peter. As we think about interest expense in the fourth quarter, the 6.5% rate should continue to work for much of the quarter. Keep in mind though that we will get closer to that $3.3 billion number on December 15th when we have to make the lion’s share of our tax payments related to the divestitures. Then that new $3.3 billion debt number will be what is used for most of 2007, with your usual expectation for free cash flow generation. That rate should hold pretty well.

Peter Appert - Goldman Sachs

Okay. Remind me, Pat, you have fixed most of the debt, correct?

Patrick J. Talamantes

The bonds are all at a fixed rate. The bank debt is not at a fixed rate, so we are about a 50-50 spread between fixed and floating.

Peter Appert - Goldman Sachs

Great, thank you. Then, Pat or Gary, any thoughts in terms of early sense of how the specific cost savings associated with combining the two entities are going, and any specific estimates in terms of the cost synergies as we get into next year?

Gary B. Pruitt

As we announced with the acquisition, we expected cost synergies to be approximately $60 million. We are on track for at least that amount of cost synergies and expect a little less than half of them this year and a little more than the rest of the half next year, and so the run rate will be at least $60 million annually. We will have a more detailed report on that at media week in December.

Peter Appert - Goldman Sachs

Last thing I will ask -- Gary, you sound reasonably upbeat, I guess, in terms of the retail ad environment. Any particular categories or any particular geographies or any particular things that are driving that optimism?

Gary B. Pruitt

We have generally seen a good -- we have seen a solid -- we have seen it solidly going forward improving with each quarter this year. We were negative in the first quarter, slightly positive in the second quarter and even more positive in the third quarter. It is nothing to write home about but the trend was positive and was strong.

It is mainly with smaller advertisers as the papers have done a better job ferreting out new accounts and increasing ad counts. California in particular has done well with retail growth in the third quarter of 6.4%, and the Carolinas are flattish. Miami, very strong in retail. The Midwest has been weak, and was down 5.5% in retail. Texas, Fort Worth paper was also weak, but the Northwest was strong, up nearly 5%.

So while it has been mixed regionally, it has mainly been smaller accounts with a slightly improving trend, and with comps staying relatively easy in the fourth quarter, we expect retail to be certainly stronger than classified.

Peter Appert - Goldman Sachs

This will really be the last thing. The Federated-May specifically, you said how much that is of your mix and what you are seeing from the currently?

Gary B. Pruitt

It is about $26 million, which is only -- Bob, you were saying how much?

Robert J. Weil

It is about 1.5% of our total advertising.

Gary B. Pruitt

Within the retail category, the strongest segments, Peter, were in the furniture, home building and office supplies areas.

Peter Appert - Goldman Sachs

The 26 was sort of a historic run rate for Federated-May?

Robert J. Weil

That is correct.

Peter Appert - Goldman Sachs

Okay, and do you have a thought in terms of what that might look like next year?

Robert J. Weil

I think we are still waiting to see how that plays out. I think in Minneapolis, for example, Federated just changed the Marshall Fields name to Macy’s last month. We are seeing a decline there, but other major retailers are stepping up, and so our actual department store advertising revenue in Minneapolis was up 1% in the third quarter. So I think we are still going to have to way to see how the Macy’s issue plays out going into next year.

Peter Appert - Goldman Sachs

Okay, great. Thank you.

Operator

Your next question comes from Steven Barlow’s line from Prudential Equity Group.

Steven Barlow - Prudential Equity Group

Thank you. Two questions. The FTEs were down 4.5%. It seemed like a good effort there. Is that mostly then from the former Knight Ridder papers and any particular areas that that attrition may have taken place? Then, on the newsprint side, can you help us out in terms of what the price went up, usage went down? Are you seeing any power of your larger company in terms of your price? How much do you think you are saving overall because of the larger demand you have overall, and are you looking at China for newsprint?

Gary B. Pruitt

I will talk about FTEs and Pat can speak on the newsprint issue. With regard to FTEs, down 4.5% or about 810 FTEs, about a quarter came from synergies with corporate, and the rest came from newspaper operations and were kind of split between the old McClatchy and the new McClatchy papers, but most are from operations through attrition, and we would expect to continue.

With regard to newsprint, I will turn it over to Pat.

Patrick J. Talamantes

On the newsprint side, the average price was up 15.4%. Part of that is a mix issue between lighter weight newsprint and 30-pound. The usage was down 9.4%, and some of that again switched between 30 pounds and 28 pounds, as well as just the other factors going on in the quarter.

In terms of what we are seeing in the market, obviously we do appear to be at the top of a cycle. You mentioned Chinese import. We look at everything. The most important thing is that those tons are coming into the market and that will help us.

Then, in terms of the purchasing power, we are seeing additional purchasing power, but it is too soon yet to see exactly how that will play out.

Gary B. Pruitt

We have not bought any China newsprint yet.

Patrick J. Talamantes

No.

Steven Barlow - Prudential Equity Group

Thank you.

Operator

Your next question comes from Craig Huber’s line from Lehman Brothers.

Craig Huber - Lehman Brothers

Good morning, thank you. Gary, I was just wondering if you could break out the ad revenue performance for the month of September and also for the quarter for your legacy McClatchy papers versus how the Knight Ridder ones did?

Gary B. Pruitt

Yes, I think I can. The reports are not crafted exactly that way, so it will probably take into the afternoon for me to do that, but I will give it a crack.

We released those -- let me give you an idea. On total advertising for the McClatchy papers, and Craig, were you asking for September or the quarter?

Craig Huber - Lehman Brothers

Actually, both.

Gary B. Pruitt

All right, let me give it to you quickly here. For Sacramento, in September -- it may be easier for me just to give it to you for the quarter, and for the monthly breakdown, Elaine could call. I do not want to bog it down too much, but Sacramento was down 3%, 3.0%. Fresno was up 7.2%, Modesto was up 3.2%, Merced was up 13.8%, Raleigh was down 0.9%, Rock Hill was down 1.7%, Hilton Head was up 6.5%, Beaufort was up 2.0%, Minneapolis was down 8.2%, Tacoma was up 4.5%, Anchorage was up 5.3%, Tri-Cities was up 0.2%, and that is it for the McClatchy papers.

Generally, the two groups’ performance was roughly in line. The swing was not so much between Knight Ridder and McClatchy papers as it was regionally, where we saw more of the swing, with California up a little bit, Carolinas down a little bit, Florida up, the Midwest down quite a bit, and the Northwest region up quite a bit.

So if you were to generalize, I would say that Northwest was very strong at 5.5%, Midwest was very weak, down 6.5%, and the other regions were either up or down less than 2%.

Craig Huber - Lehman Brothers

That is very helpful. I know you do not want to give an update here, but this $60 million figure you talked about your cost-cutting, you talked about 75% of your FTEs down for newspaper operations. I guess a good chunk of that has been online operations, and only 25% corporate. You originally talked about, Gary, I think $40 million of cost-savings from the corporate, 15 from online, 5 from your newspapers. But then, this labor number you mentioned, down only 25% from corporate and 75% down for your newspapers operations, suggests that you are in coming better than this $60 million number. Is that a fair way to think of this? I mean, significantly better, perhaps.

Gary B. Pruitt

We are confident that we will get at least the $60 million, and we may do better than that. As I mentioned, we will have a more complete report about that at media week to detail those numbers, but we hope to do better, but we will give you the full report then.

Craig Huber - Lehman Brothers

Maybe another way of asking, that 75% of the FTEs that were down for the newspaper operations, if you broke out the online piece of that from just the hard copy newspapers, how would you break that out?

Gary B. Pruitt

Well, it is a mix of both, but the overwhelming majority coming from the print side. You are asking a breakdown between the print and the online side?

Craig Huber - Lehman Brothers

Yes, it kind of goes back to this original $15 million and $5 million figures.

Gary B. Pruitt

Right. I will tell you how it has gone. The corporate synergies were largely people and were achieved pretty quickly. The digital, and I am confident of our numbers there, the $40 million numbers, and we are hopeful of doing better.

On the digital side, where we put in that $15 million figure, it came more slowly, because we maintained McClatchy Interactive West, which was the former Knight Ridder Digital, and McClatchy Interactive East in Raleigh, and we needed to work in transition, so that synergy number we are confident will be achieved but does not come immediately, but certainly will come, at least that $15 million, in the first year.

Then, finally, the newspaper operations number of $5 million we got from newsprint alone already, on purchasing of the newsprint, so that is why we are completely confident in the $60 million figure and are striving to do better.

Craig Huber - Lehman Brothers

Thank you.

Operator

Your next question comes from Lauren Fine from Merrill Lynch.

Lauren Fine - Merrill Lynch

Thank you, just a couple. I just want to make sure I understand that for the fourth quarter, it sounds like you are suggesting that ad revenue performance could be weaker than September. Am I correct in that understanding?

Gary B. Pruitt

I am suggesting that it could be. What we are saying is that we would expect the fourth quarter numbers to be no better than the September numbers. What we have seen is we have seen a pattern of weakening throughout the third quarter. July ad revenues on a pro forma basis were flat, and then August was down 0.3, and September was down 2.1. We do not see that trend reversing from the evidence we have. We do not see ourselves falling off a cliff, necessarily either, so we are not giving earnings guidance. We wanted to give some guidance in terms of advertising revenue direction, and what we see as the fourth quarter being no stronger than the September results, which are weaker than the third quarter overall results.

Lauren Fine - Merrill Lynch

Thanks. Then, I am just wondering in terms of online, beyond classified and traditional retail, what other areas are you seeing any promise?

Gary B. Pruitt

I am sorry, Lauren?

Lauren Fine - Merrill Lynch

Beside traditional classified and retail online, what other areas are you seeing any promise in online?

Gary B. Pruitt

Okay. I will turn it over to Chris.

Chris Hendricks

As Gary had mentioned earlier, the retail sector is showing a significant growth for us, but inside the retail category, there is one which is the management of keyword and search engine management for smaller businesses. We are finding that the small business are very interested in keywords. They do not have the management capacity to go ahead and constantly monitor those keywords, so we are actually selling services through a company called Web Visible that allows us to manage that for them. So far, we are seeing bright results. In one market, we are averaging 30,000 a month, and it is growing steadily, and just managing the relationships with Yahoo!, our own local search initiatives, Google, and other search engines that are out there for people managing the keywords on those sites.

We believe we are bullish there. We believe that next year, we will see significant gains there.

Beyond that, the retail space is really booming as a result of collapsing into a local retail marketplace. We are seeing banner increases, significant banner increases, keyword search increases, ROP conversions and directory space.

On the volume side, the volume growth was definitely led by banners, followed by ROP conversions and keyword directory type things, but on the percentage gain basis, although some of these are small gains, the keyword search would definitely be the largest categories, followed by ROP conversions and also banner advertising.

Lauren Fine - Merrill Lynch

Great, thank you.

Operator

Your next question comes from Paul Ginocchio’s line from Deutsche Bank.

Paul Ginocchio - Deutsche Bank

Thank you. Just maybe a question for Chris. I am wondering, for the legacy McClatchy papers, what they are getting out of CareerBuilder now that they have joined it, or is it too early to see any benefits?

Chris Hendricks

Actually, right now we have two papers that have launched in the CB platform. All will launch by the end of this month. Raleigh and Anchorage have launched on the platform, and we do expect to see a double-digit gains on top of normal growth in these categories over the next year as a result of what we call the CareerBuilder bump. We are bullish on that also and we do expect to see increases. As a result, that will help in the category.

Paul Ginocchio - Deutsche Bank

Is that traffic or gross pricing?

Chris Hendricks

Pardon?

Paul Ginocchio - Deutsche Bank

Is that traffic or pricing?

Chris Hendricks

That is both pricing and traffic.

Paul Ginocchio - Deutsche Bank

Gary, have you seen anything in the papers you purchased that surprised you, or looks better than what you are doing or worse than you are doing, I guess if there was any surprises? Thanks.

Gary B. Pruitt

I would say in general, the integration of the acquisition has gone probably better than we expected. That has been surprising. I would say the acquisition has gone very well there. It is a lousy operating environment, so it is great to -- and we are going through budgeting right now, so welcome to McClatchy and cut your budget is not a great integration strategy, but we do not have a choice. So that makes it tough.

We have taken the steps, the largest papers, which include old and new McClatchy papers, and have all the publishers and ad directors share best practices and critique the papers, and from that, have gained from the experience in terms of who is doing what well and who can improve.

I think we are seeing a sharing of best practices and benefit from that experience.

I do not know if the VPs of Operations have anything to add to that general statement.

Frank Whittaker

The only thing I would add is just to follow-up on a comment from Gary’s opening remarks, and that is not a surprise because we knew it from due diligence, but we found that Knight Ridder papers typically had a higher percentage of their circulation in that other category, third-party programs. So we are working with the publishers to sort of bring that down in a planned fashion so that we are delivering higher value to our advertisers.

Paul Ginocchio - Deutsche Bank

Could I ask just maybe an editorial size versus benchmark to however you want to do it, circulation versus your papers and/or revenue per salesperson? Are those out of whack versus you, versus your papers?

Gary B. Pruitt

No, they are actually pretty close. It is hard to generalize company to company. Really, the more relevant factors are paper to paper, and there we have seen some pretty wide swings within the company. It is not generalizable for the whole company, but there are some swings within the company.

Paul Ginocchio - Deutsche Bank

Great, thanks very much.

Operator

Your next question comes from Robert Schiffman from Credit Suisse.

Robert Schiffman - Credit Suisse

Good afternoon. A big picture question, then a detail question. The industries and other names continue to go through, looking at strategic alternatives. Are you guys out of the M&A game for now? Sort of a follow-up to that, maybe you could talk us through a little bit of the benefits of remaining public, with the stock continuing to be down. Are there any significant benefits of being public, other than being able to issue stock to buy out some others?

The final thing is you said you were going to draw down further on your bank facilities to pay the tax bill. Does that mean you have no plans to come to the public debt market for the near term?

Gary B. Pruitt

Answering the last question first, we do have no plans to go to the public debt market at all.

Going back to the beginning, we are not in the acquisition hunt right now. We are in the acquisition integration game right now. We are not looking at Tribune or any other situation, for that matter. We have a lot to work on and we are going about that and focused on it.

So the focus, rather than on acquiring additional papers, will be on operating well and paying down debt. That will be our focus for the next couple years. It does not mean we will not be making selected investments in strategic Internet opportunities or opportunities to fill out our local media strategy, be it niche publications or direct mail, but I do not think you should look for McClatchy to be in the hunt for a major newspaper acquisition in the near term. That is really not our focus right now.

As far as benefits from being a public company, that is a good question. We have benefited from being a public company. We were a private company from 1857 to 1988, and then went public in ’88. We have used equity as currency in the acquisition of the Star Tribune in Minneapolis in ’98 and , of course, for part of the currency in the Knight Ridder acquisition, so being public allowed us to grow and to successfully grow and to build a stronger company with a broader footprint and more robust Internet assets.

We feel we have benefited as a company. Does that mean that we will benefit in the future? Not necessarily, and so we constantly evaluate that. We have no plans to change our current capital structure. We plan to remain a public company for the foreseeable future. We have a lot of debt. We have a lot of new stock outstanding that we issued as part of the Knight Ridder deal. So in the coming years, the majority of our cash will be used for paying down debt and then balancing that with buy-back of shares. Long term, the company would have the option to go private and we would evaluate that as the years unfold, but we do not have any current plans to go private. But we would evaluate it in the future.

Operator

Your next question comes from Brian Shipman from UBS.

Brian Shipman - UBS

Thanks, just a couple of questions. First, there is a belief I would say in the investment community that real estate advertising could actually accelerate in the event of a slowdown in the real estate market. Gary, I was wondering if you would just share your thoughts on that theory. Also, what growth rate you expect to see in real estate advertising in 2007.

Second question is Knight Ridder had a contentious relationship, I would say, with the Seattle Times newspaper management. How has your experience been so far? Would you ever be interested in owning 100% of that newspaper?

Gary B. Pruitt

With regard to real estate, I would say that we have seen a slowing overall -- it varies by region, but overall we have seen a slowing in real estate activity, which has already spurred this year the higher growth rate in real estate classified advertising. In other words, I think much of the effect you are talking about, Brian, has already taken place. I hate to say that. I wish I were wrong, but I think most of it has already taken place and so this year, year-to-date, real estate revenue growth has been faster than last year. We kept saying you know, this is unsustainable. We have been saying that for two years, so we finally shut up because we kept on being wrong, and it proved to grow even faster.

I honestly believe that the growth rate is not sustainable and that real estate will slow. We are already starting to see some evidence of that. It grew 10.7 in the third quarter, but it grew 14.3% in the third quarter and 19.7% in the first quarter on a pro forma basis, so it has already begun to slow. We think, if we avoid a crash here in the real estate market, that there is enough strength in enough markets that we can show some modest growth. We would expect growth in the fourth quarter, and we will give you a better read on what we expect in ’07 at media week, but there is enough cyclicality to that market that I do not feel confident hedging a number for ’07, but I do think -- what happens is when the market slows, that does spur advertising growth at first, and then long-term, of course, there is less advertising because there is less activity. We are kind of beginning that latter phase, I believe, perhaps.

With regard to the Seattle Times, we have a good relationship with the Blethen Company, the Blethen family, and expect not to have a confrontational relationship with them. They have no plans to sell and expect to remain independent. We do not expect that we will be owning 100% of the Seattle Times. They can control their own destiny there. If they decide they want to sell, we would certainly listen but we are not in a position to force that issue, nor do we want to.

Operator

Your next question comes from Christa Quarles’ line from Thomas Weisel Partners.

Christa Sober Quarles - Thomas Weisel Partners

Hi, just a couple. First, could you give us what the shares were at the end of the quarter? Then, I think both you and Gannett had online help wanted numbers that were a bit worse than CareerBuilder overall. I was just wondering if you could highlight if the direct to online market is significantly stronger than the combo. Then, just looking at the overall help wanted, or just the overall circulation figures, is it your plan anyway, or do you think it is possible to try and stabilize that by the end of 2007 in terms of the volume declines? Thanks.

Gary B. Pruitt

With regard to the number of shares outstanding, we currently have outstanding 81.1 million shares outstanding, and so that is the number of shares to use for EPS calculation in the third quarter, but in the year-to-date period, of course, you have to average all three quarters, and that number is --

Patrick J. Talamantes

Let me correct what I said and some information I gave Gary. The shares for the fourth quarter that we would expect are about 82.1 million, so if you are using it on a go-forward basis, that is the proper number to use.

Gary B. Pruitt

The nine month figures I think have already been released, 55 million or -- yeah, okay. So you needed the go-forward basis?

With regard to the online, Chris.

Chris Hendricks

Help wanted is up approximately 30% year-to-date when you back out the issues we had with some of the online sales from CareerBuilder, as Gary noted. We have seen some slowing slightly throughout the year as a result of the print side slowing, as you say, the combo buys. We still have strength there in pricing. We have strength there in the volume, and versus the direct sales, which would be online only, it is definitely slower than that. We are seeing significant growth in the direct sales side, both from our sales and from CB with the online only portion of our business being up about 140%. However, that is only about 12% of the business, so the lion’s share of the business continues to come from the combo buy, but yes, we are seeing some slowing there.

Gary B. Pruitt

Christa, with regard to circulation, I will turn it over to Frank Whittaker.

Frank Whittaker

Christa, I think the answer is that over time, let’s say over the next 18 months, I think the volume declines will lessen. First, because we will have got our arms around some of these programs that advertisers keep telling us are not in their interest. Secondly, there are a few unusual strategic decisions that we will make. One is that the Miami Herald has an international edition that at one time was 40,000 circulation, distributed throughout Central and Latin America. They were bringing those numbers down before acquisition and we think we will continue that trend.

Then, thirdly I think we are cycling through some of the worst of sort of the do-not-call effects and the difficulty of finding new sale sources. I think volume declines will lessen as we get towards the end of ’07.

On the revenue side, some of the revenue declines, as we mentioned in previous calls, is actually a good news story because we are converting a lot of our large papers from employee to agencies, so that has the effect of reducing FTEs and compensation costs, but the way those agencies make their money is on a lower wholesale rate, so that is also factored into lower revenues.

Operator

(Operator Instructions)

Your next question comes from Thomas Russo’s line from Gardner, Russo & Gardner.

Thomas Russo - Gardner, Russo & Gardner

Question for Frank. On the discussion that you just had about circulation. Can you give any color between the circulation of the heritage McClatchy papers versus the Knight Ridder? We have that 20-year unbroken string on the McClatchy side. What is the general trend in McClatchy papers for circulation?

Frank Whittaker

Again, as with the advertising question earlier on, I can read you the data if you like, Tom. We do not have it conveniently broken out between the two, but I will read some quick third quarter results, if you like.

Sacramento was down, this is daily circulation, 6%; Fresno, 3.0%; Modesto, 3.4%, Merced, -0.9%; Raleigh, -0.7%; Rock Hill, -4.4%; Hilton Head, a gain of 0.6%; Beaufort, a decline of 0.3%; Minneapolis, a decline of 4.9%; and Tacoma, a decline of 5.3%; and Anchorage, a decline of 2.2%. I think that is it.

Very similar to the response to the advertising question earlier on. More a question of region than it is a question of paper, I think, and different factors driving different results, but I think everybody is sort of heading towards the same goal, which is less third-party, less intermittent subscriptions, and a much stronger emphasis on what we call core circulation.

Thomas Russo - Gardner, Russo & Gardner

The Sacramento one was the market that probably surprised me the most, out of what you just outlined, because I would guess it still has pretty good population growth. Is that a market where you are responding to the advertisers’ request more forcefully?

Frank Whittaker

Correct, Tom. Let me just give you the quarterly trend. First quarter it was down 2.3, second quarter 4.1, third quarter, 6.0. That is all of that accelerated trend is due to sort of reducing the lesser quality circulation as defined by our advertisers, and we will cycle through that within a year.

Thomas Russo - Gardner, Russo & Gardner

Okay, thank you very much. Bob, do you have any -- as a long-term investor, I like to look out. I gather that Minneapolis will be the site of the ’08 Republican Convention. What might that mean to your market, or the Minneapolis market?

Robert J. Weil

I think it is going to bring about $130 million into the economy during the Republican Convention. It is good news for the Twin Cities. I suspect the Star Tribune will capture a piece of that as they prepare for the convention and then the activities that happen during it.

Thomas Russo - Gardner, Russo & Gardner

Chris, my last question, in the numbers such as the auto advertising, down 9.4%, what is the offset to the Internet advertising in the auto category, because I know that you combine -- it suggests a substantially sharper decline off of the print side versus what you report as the auto classified in general.

Chris Hendricks

In the third quarter, online automotive was up 20% year over year. Year-to-date, it is up about 31.6%. There is an offset --

Patrick J. Talamantes

Year-to-date it is up 21.4%.

Chris Hendricks

Excuse me, 21.4%, that is correct. That 31.6% number was wrong, but it is up year-to-date 21.4%. If we look at print only, the print only automotive classification during the third quarter was down 12.2% and year-to-date down 14.3%.

Thomas Russo - Gardner, Russo & Gardner

What is the interaction between the two? Anything developing that is different than before, or is it just either combined or either a direct purchase online? Any interesting developments, just as the category auto works with dealers versus the --

Chris Hendricks

Well, we are still seeing a significant growth in the online only piece of that business. It is now about 40% of the online business is online only. It is not the combination buys and that is cars.com solution, so we are still gaining significant traction there.

In fact, the online only piece of the online business is up 51% year over year, so I guess that would be the story within that context, is that our solutions are being purchased at a rapid pace, and we continue to get penetration in the marketplace with them.

Right now, at cars.com we have 1,412 dealers participating in cars.com across the McClatchy papers, and that growth is up 16% year over year.

Frank Whittaker

Tom, this if Frank. You did not ask this specifically, but related to your Republican Convention question, the Super Bowl is in Miami this coming year in February and we are also very excited about that opportunity and think that we should be able to parlay that into an ad revenue gain of somewhere between $1.5 million and $2 million.

Thomas Russo - Gardner, Russo & Gardner

Great, and then, the political campaign season that we are going through now, has it had much effect in terms of political advertising? I know it is typically a broadcast story, but I gather that we are looking for some share to come into the print, but I am not sure where you see it yet.

Gary B. Pruitt

Have not seen much effect at all.

Thomas Russo - Gardner, Russo & Gardner

Thank you.

Operator

Your next question comes from Edward Atorino’s line from Benchmark Capital.

Edward Atorino - Benchmark Capital

I apologize, did I miss an interest rate forecast earlier in this broadcast?

Gary B. Pruitt

Yes, about 6.5%, 6.5%.

Edward Atorino - Benchmark Capital

Interest expense for the fourth quarter would be like the third quarter?

Gary B. Pruitt

It would be a little higher because we are going to pay taxes on a big income tax payment on the 15th of December, so the second-half, for about a sixth of the quarter, debt won't be the $2.5 billion that it is standing at now, but jump to $3.3 billion.

Edward Atorino - Benchmark Capital

Thanks much.

Gary B. Pruitt

Sure.

Operator

Your next question comes from Lisa Monaco - Morgan Stanley.

Lisa Monaco - Morgan Stanley

Hi, Gary. Could you just give us an idea of how you are thinking about approaching ad rate increases for next year for your papers and the additional Knight-Ridder papers? Thanks.

Gary B. Pruitt

Sure. It's a very difficult question to generalize. We're just going through budgeting now so we have not nailed down those increases. But in general terms, we're looking in preprint rate increases, maybe in the zero to 2% range; lower increases. Then in the retail range we're looking at maybe in the 2% to 4% or 2% to 5% range, and it varies by paper. National on about that same rate increase.

Online, really varies by paper and its rates can change throughout the year. But with the audience growth there and the use of online advertising, the rate growth is at a much faster rate; it's a double-digit rate. So we change it regularly based on take rates and what we're seeing in local markets. It's not uncommon for us to have quarterly rate changes within different categories online.

If you rolled it all up and averaged it all out, you probably say that the average rate increase was in the 3% to 4% range.

Lisa Monaco - Morgan Stanley

What do you think you've currently been yielding?

Gary B. Pruitt

Maybe 2%.

Lisa Monaco - Morgan Stanley

Then two unrelated questions. Can you just remind us where exactly all of your papers, including Knight-Ridder, are in terms of switching over to the lighter weight basis? If you could just give us what the department store advertising category is as a percentage of total retail. Thanks.

Patrick J. Talamantes

On the newsprint side, Lisa, virtually all have switched. The last major paper that has to go is Kansas City, which will go in early 2007 now that its new press is up and certified.

Gary B. Pruitt

The department store category is about 2% of retail – or total. I'm going to have to have Elaine get back to you on that because I'm not 100% confident in the number that I just gave you, because as we roll up the two systems -- PeopleSoft and Oracle -- I don't have complete confidence in the numbers. Elaine will have to get you the specific number.

Lisa Monaco - Morgan Stanley

Thank you.

Operator

Your next question comes from Scott Shiffman – Lehman Brothers.

Scott Shiffman – Lehman Brothers

If you could just remind us of your target leverage ratio and your timeline to reach that target? Is the reason that you wouldn't consider a going private transaction at this time strictly due to the incremental debt burden from the Knight-Ridder acquisition, or are there other factors? Because as I recall, Gary, you were recently quoted as part of a Tribune story as saying you would consider a going private transaction. So any incremental color would be helpful, thanks.

Gary B. Pruitt

Sure, thank you. Pat you can speak to the leverage ratios.

Patrick J. Talamantes

In terms of our target leverage ratio, we anticipate focusing on repaying debt all the way through, getting back down to approximately 2X debt to cash flow. At that point we would start looking at potential other uses for that cash, primarily stock repurchase. That number is probably a less levered number than you have heard from other companies, but we do tend to be conservative with our profile.

Gary B. Pruitt

With regard to our situation, we would not consider going private at this time, given our debt load and the amount of new stock we just issued. So it's not even -- I don't want to answer a hypothetical question, “what if we didn't have debt” or “what if we didn't issue those shares, what would we be doing?” I don't know, but I can just tell you what we're doing now, which is focused on paying down debt and then balancing it with share buyback.

We would consider the possibility of a going private transaction or at least it would be an option for us, but I really can't give any more clarity to that because we don't have any plans around that. We will keep you up-to-date on our thoughts there as we pay down debt and buy back stock.

Scott Shiffman – Lehman Brothers

Great. Thank you very much.

Operator

Your final question comes from Nicole Black - Wachovia Capital Markets.

Nicole Black - Wachovia Capital Markets

Hi, thanks for taking the question. Using your year-end debt guidance of $3.3 billion, it looks like you're going to take a meaningful jump up in leverage from the end of the third quarter to the end of the fourth quarter. I realize this might be temporary, but are the rating agencies okay with this jump?

Gary B. Pruitt

Well, we did meet with S&P and Moody's and went through our plans with them and you see the resulting ratings. So S&P has us two steps above investment grade, BBB flat and Moody's has us one below investment grade rating. So yes, they know our plans, they know our projections, and they've rated us where they deem fit, accordingly. We expect that we will be investment grade going forward as we pay down debt and we'll be focused on that. We'll have more of an update on that at Media Week.

Nicole Black - Wachovia Capital Markets

Thank you.

Operator

There are no further questions at this time. You may proceed.

Gary B. Pruitt

I'll proceed by concluding. Thank you for listening, and your questions and I look forward to a good fourth quarter. Thanks very much. Good bye.

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