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Executives

Alan Schultz – Chairman, President and CEO

Bob Recchia – EVP and CFO

Analysts

Jim Boyle – Gilford Securities

Alexia Quadrani – J.P. Morgan

Chuck Cerankosky – Northcoast Research

Dan Leben – Robert W. Baird

Bob Evans – Craig-Hallum Capital

Edward Atorino – Benchmark

Dan Salmon – BMO Capital Markets

Jonathan Levine – Jefferies & Co.

Valassis Communications, Inc. (VCI) Q4 2009 Earnings Call Transcript February 22, 2010 11:00 AM ET

Operator

Good morning ladies and gentleman. Thank you for standing by. Welcome to the Valassis fourth quarter and year-end December 31, 2009, earnings conference call. During today’s presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator instructions) This conference is being recorded today, Monday, February 22, 2010.

I will like to remind you that the discussions during this conference call will include forward-looking statements, and the actual results could differ materially from those projected in the forward-looking statements. The factors that could cause the results to be materially different from those expressed or implied by such forward-looking statements are discussed in the risk factors and other sections of the 2008 annual report on Form 10-K, and in the reports on Forms 10-K and Form 8-K filed in the SEC also.

The discussions during this conference call will include certain financial measures that were not prepared in accordance with Generally Accepted Accounting Principles. Reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures can be found in the earnings release furnished with the current report on Form 8-K dated today, which is also available on Valassis website at www.valassis.com on the home page of the investors section.

I would now like to turn the conference over to our host Mr. Alan Schultz, Chairman, President and CEO from Valassis. Please go ahead, sir.

Alan Schultz

Thank you, Damon. I’d like to welcome to everyone to the call this morning. I am here with Bob Recchia, our Chief Financial Officer, and I will go through our opening remarks, and then Bob and I look forward to answering your questions.

I will start by reviewing our 2009 overall results. From an earnings perspective it is the $45.9 million increase in adjusted EBITDA for the year that is the most powerful indicator of the strength of our team and our business. The numbers get a little convoluted when you try to compare GAAP results year-over-year due to the non-cash goodwill impairment charge taken in the third quarter of 2008 related primarily to our acquisition of the Shared Mail business.

The same accounting rules which required us to take this $245.7 million impairment charge in the fourth quarter of 2008 would not require a write-down today based on our 2009 results and outlook. There are no provisions in the accounting rules to write up goodwill and other intangible assets to their original or current value. Unfortunately, this causes a distortion when using 2008 reported results for comparative purposes. Clearly, the decision to acquire the Shared Mail business was a great one for our company both strategically and financially. In fact, in 2009 the Shared Mail business represented over half our revenue and 60% of our total segment profits, and it was a major contributor to our $45.9 million increase in adjusted EBITDA.

On the revenue side, we continued to see evidence of revenue stability in the fourth quarter of 2009. During 2009, we experienced our steepest quarterly revenue decline during the second quarter. The quarterly year-over-year revenue declines were in Q1 2009 7.7%, the second quarter of 2009 we experience an 8.6% revenue decline, in the third quarter 3.5%, and finally in the fourth quarter the revenue decline was 3.4%. It is worth noting if you exclude the decline in fourth quarter ROP revenue, total company revenue would have actually increased by 1.4% in Q4.

Our decline in ROP revenue was due almost entirely to reductions in spending within the financial services sector, which isn’t surprising. As a result the ROP revenue declined by $30 million in the fourth quarter of 2009 compared to the prior year quarter, and was down over $60 million for the year. Fortunately, the ROP business is our lowest margin business. We expect the ROP business to continue to be a revenue drag through the first quarter of 2010, but to a lesser degree than what we experienced in the fourth quarter. With all that said, we continue to outperform most other media companies, many who have reported double-digit revenue declines in 2009.

I will move on to discuss some of our segment highlights. I will start out with the Shared Mail segment. The Shared Mail story is one of competitive advantage and improved operating leverage. Our competitive advantage is the ability to integrate Shared Mail and newspaper distribution into a single optimized media buy for our clients. As a result, we have been able to grow our market share in the newspaper insert placement business. But as newspaper circulation and coverage declined, we continue to see more migration of newspaper inserts to Shared Mail as clients still need to reach households no longer reading the newspaper. And of course, our margins nearly tripled when clients shift their newspaper inserts to our Shared Mail package.

We estimate overall advertising spending declined approximately 14% in 2009. Our Shared Mail revenue declined just 6.7% for that same time period. So Shared Mail grew its market share of total ad spending. Also affecting Shared Mail is our strategy to reduce the distribution of less profitable packages. The revenue associated with this reduction represented $34 million for calendar year 2009, representing over one-third of the 6.7% revenue decline for the year.

In Q4 2009, revenue associated with package reduction was 9.4 million. So without the impact of package reduction, Shared Mail revenue would have been up 2.2% in the fourth quarter of 2009. Reduced package distribution will continue through at least the third quarter of 2010, representing a projected $8 million drag on revenue for 2010. However, our field sales organization continues to drive the Shared Mail business, and increased revenue from our small and regional client base grew nearly 5% in both the third and fourth quarters of 2009.

As we ticked off the quarters in 2009 there was improvement in the rate of decline versus the prior year in our Shared Mail business. In the first quarter we saw our Shared Mail revenue 12.7%, the second quarter 10.5%. In the third quarter Shared Mail revenue was down was just 2.3%, and in the fourth quarter Shared Mail was down six tenths of one percent. As was the case in Q3, virtually all the metrics we used to measure the health of the Shared Mail business remained strong in the fourth quarter. Pieces per package were up; unused postage was near an all time low at 19%, wrap sell through percentage was at 89% compared to 83% in the fourth quarter of 2008.

And we continued to execute newspaper alliances or our joint distribution agreements with newspapers, which improved Shared Mail margins. In combination, all of these improvements continue to increase our operating leverage in our Shared Mail business, which drove the 68% or $15.6 million increase in segment profit for Q4 versus the prior year quarter.

Moving on to our Neighborhood Targeted segment, the growth in our newspaper inserts business, previously referred to as newspaper preprints, continues to be the big news in this segment. Newspaper insert revenue increased 25% or $20 million in Q4 ’09 versus Q4 ’08, the fourth consecutive quarter of year-over-year quarterly revenue growth. Newspaper insert revenue increased by 24% for the year versus 2008. This is especially impressive as newspaper industry itself continues to report double-digit revenue declines. Our success is the direct result of our competitive advantage of offering optimized media buys, which combine newspaper and Shared Mail distribution.

We are increasing our market share of total client ad spending, and as mentioned earlier, we expect continued migration towards Shared Mail distribution as newspaper market coverage continues to decline. Other success factors include selling newspaper inserts to existing customers, who had not previously purchased newspaper inserts from us trading out lower margin business for full-service business with higher margins and a strong retention rate among our client base buying newspaper inserts from us in 2009.

In our FSI business, segment profit increased 9.7 million in 2009 from 2008. The negatives in the FSI business were a mid-single digit price decline, as we had anticipated, and a small decrease in our market share, which represented a 2.4% decline in segment revenue. These negatives were more than offset by a 4% increase in industry unit volume for the year, and cost improvements we were able to make in this business.

Approximately 85% of the estimated pages we expect to sell in 2010 are already under client contract, and just over 60% of the estimated pages for 2011 are also under client contract.

Moving on to our International, Digital Media & Services segment, the strong performance of our coupon processing and analytics subsidiary, NCH Marketing Services, drove this segment’s revenue and profit growth in Q4. A combination of increased volume and a continued investment in enhanced products and services led to this strong performance.

Total coupon redemptions were up 23% in 2009 versus 2008. As we move more volume through our existing processing facilities, efficiency improves contributing to increased segment profit. From an overall corporate perspective, we are reiterating our 2010 guidance of approximately $280 million in adjusted EBITDA. We optimized there are a number of factors that may have a tendency to positively skew your expectations of our earnings going forward. These include, reduced legal expenditures, use of the cash settlement proceeds, the Shared Mail agreement with News America to distribute some of their SmartSource FSIs in our Shared Mail package, and being ahead of schedule on newspaper alliances.

However, at this time it is difficult to quantify the impact of all of these developments. And since we’re less than two months into the year, full year business performance is difficult to gauge with the degree of certainty we would need in order to change our guidance. In addition, there is still a fair amount of global economic uncertainty in the air. However, as stated in our release, we do expect to update diluted cash EPS guidance after a decision is made on how the net settlement proceeds of approximately $300 million will be deployed, and if appropriate to review annual full year 2010 adjusted EBITDA guidance when we announce Q2 2010 earnings, and if had an opportunity to better versus second half 2010 client spending.

I can tell you at this point, overall revenue for Q1 2010 looks relatively flat versus Q1 2009, even when you factor in the ROP revenue decline we expect in Q1. In addition, our sampling and polybag advertising business may be an early indicator of economic recovery. This business is driven by new store openings and new product introductions, and therefore is our most cyclical business. We are seeing more sampling programs included in client budget plans for the first-half of 2010. If those plans become a reality, it could be an early indicator of increased economic activity, which would likely be followed by increased client marketing spending. I am hopeful that these positive indicators will become a reality in 2010.

We recently developed a five-year business plan with the goal of mid-single digit topline growth and double-digit bottom line growth. While offering blended Shared Mail and newspaper distribution is our greatest competitive advantage today, we are enthusiastically investing in our digital media business. This will provide an additional growth platform for the future, allowing us to reach consumers who prefer to get their deals electronically. Our current digital portfolio includes secure prints, offered [ph] or frequent shopper card, e-mail, selling display ads, mobile distribution enwrapping [ph] internet search.

While the products and technology will continue to evolve, digital media provides a great long-term growth opportunity for our company. Today RedPlum.com is on page one of Google search for coupons. We have expanded our RedPlum.com network to over 900 partners, which reach 45 million unique users each month. In January of 2010, RedPlum.com generated a six-fold increase in secure coupon prints over January of 2009. Valassis is in a strong position to immigrate online and off-line media for our clients in the future, and we believe this will become a significant competitive advantage versus online only competitors.

Damon, at this point in time, we would like to open the call up to questions.

Question-and-Answer Session

Operator

Thank you sir. (Operator instructions) Our first quarter comes from the line of Jim Boyle with Gilford Securities. Please go ahead.

Jim Boyle – Gilford Securities

Good morning. When you think ahead in 2010 given your flat booking so far in Q1 expectation, which situation would realistically allow Valassis pricing power to drive the revenue growth later in the year?

Alan Schultz

You know, Jim, I think what we need to -- what we need is, we need clients to increase their marketing budgets. We believe through conversations with clients that many of our clients have increased their marketing budgets in 2010. What we don’t know is if those dollars will be spent. We get the impression that it is going to really be a customer by customer decision as to those marketing budgets based on how their business performs in 2010.

If those customers see increased sales, increased economic activity in their stores for instance, we think those marketing dollars will be spent. If they don’t, we think those marketing dollars that are in the budget today ultimately will be pulled back and not spent. At this point in time, it is just too early in the year for us to tell for certain exactly what is going to happen with those marketing budgets.

Jim Boyle – Gilford Securities

Any thoughts on how the board of directors might view share repurchases in 2010?

Alan Schultz

You know, if you do just kind of factor the (inaudible) math around $26 a share. If the stock is below $26 per share, you would probably get a little more pop out of share repurchase in terms of the impact that it has on EPS. If the stock is over $26 a share, then buying back bonds or notes would have more of a positive impact on EPS. We are going through that analysis right now. Lauren [ph] is gathering up the analysis on a variety of different options that we have available to us, and the board has not reviewed all that analysis at this point in time.

They have given us a list of what they want analyzed. That analysis is being completed, and at this point no decisions have been made. We are limited in 2010 to 60 million in share repurchase based on our credit facilities.

Jim Boyle – Gilford Securities

Okay, thank you.

Operator

Thank you. Our next question comes from the line of Alexia Quadrani with J.P. Morgan. Please go ahead.

Alexia Quadrani – J.P. Morgan

Hi, thank you. A couple of questions, first, can you remind us of the number of FSI books scheduled, I guess by quarter for this year, and also if you can touch on if you have seen any pickup in pricing and in direct response or remnant [ph] side of the business?

Alan Schultz

Okay, let us see Alexia. On our 2010 FSI date schedules, this is the coop date schedule. We have got Q1 books planned for the first quarter. We have got 10 books planned for the second quarter, nine for the third, and nine for the fourth. That would be a total of 39 books at this point. We do not have and we do not provide information on the distribution of custom coops. So, obviously that would be in addition to the regular coops.

As far as remnant pricing goes, I don’t think we have seen any real changes in remnant pricing for 2010 at this point. I would say they look relatively stable versus 2009.

Alexia Quadrani – J.P. Morgan

And then on the advert side of the business, I mean the Shared Mail side of the business, sorry I had that name still in my head.

Alan Schultz

That is all right.

Alexia Quadrani – J.P. Morgan

Can you give us little bit of color, I guess which verticals are trending stronger or weaker in that business, and you have done such an impressive job on the stability there, where do you think margins could ultimately go in that segment?

Alan Schultz

Yes. I think – here is what I can tell you, grocery and drug was actually up a little bit in the quarter, and in the full year. We did also see an up-tick actually in the fourth quarter in telecom. So those were probably our strongest categories, and then also specialty retail, we saw a pretty good up-tick in the fourth quarter. You know, from a profit perspective in the Shared Mail business, we think there is still upside. I think our gross margin was in the neighborhood of 25.5, may be a little bit more for the year.

I think, when we acquired the business we had seen the margins as high as may be 27, 28 on a historical basis. So, we think there is opportunity for a couple of margin points of improvement. Alexia, I need to give you another little bit of information here on the date schedule, if I could. What I didn’t give you was the dual dates, and so what I mean by that is there are some dates during the year where we actually are going to run two programs on those.

There is one of those dual dates in the first quarter, and there is a dual date in the third quarter, in the fourth quarter. So that in essence would take your total number of programs for regular coop booklets up to 12 for the first quarter, 10 for the second, 10 for the third, and 10 for the fourth for a total of 42.

Alexia Quadrani – J.P. Morgan

What do you mean by dual dates, you have just two separate books in the same paper?

Alan Schultz

Yes, we have two separate books in the exact same newspaper. To the extent that we can combine them together that is a good thing, but we run into category exclusivity issues at certain times of the year, where category exclusivity doesn’t allow us to run competing products in the same booklet. So we couldn’t run as an example, a General Mills cereal ad in the same booklet with a Kellogg’s cereal ad, and there certain times of the year where we get a lot of category conflict, and we’re forced to run these dual books.

Alexia Quadrani – J.P. Morgan

Okay. Thank you very much.

Operator

Thank you. Our next question comes from the line of Chuck Cerankosky with Northcoast Research. Please go ahead.

Chuck Cerankosky – Northcoast Research

Good morning everyone.

Alan Schultz

Good morning Chuck.

Chuck Cerankosky – Northcoast Research

Alan, when you are looking at the digital distribution of coupons, what is the current thinking of the CPGs and the retailers these days around the distribution and control of those things?

Alan Schultz

Yes, I would tell you Chuck, there is a little bit of a war going on there. The CPGs really want to control the distribution of their digital offers, and they want their digital offers to be used in any particular store. The retailers who prefer that the digital offers only be available in their stores, and so that is a little bit of a battle going on in that regard. And we have seen that battle over the past few months, but it looks as if a little bit of the – there is a little bit of a thaw taking place between the manufacturers and the retailers in that regard and they are finding some common ground that they can work on together.

Chuck Cerankosky – Northcoast Research

Do you see any interplay between the pricing for coupons distributing in that fashion versus the FSI books?

Alan Schultz

I’m not sure exactly what you mean by that question Chuck.

Chuck Cerankosky – Northcoast Research

Excuse me. If you look at how that product is priced and distributed versus what happens in the FSI, is there a package pricing sort of concept going on in the CPG’s mind?

Alan Schultz

Not really today. What I would tell you Chuck is that today’s CPG clients really view it as a separate, new, different, unique form of distribution. And that is pretty common when the CPGs get into something new for the first time. We personally believe that as time goes on it is going to become less common, and when it becomes mainstream, then we believe CPGs will be looking to blend in their off-line and online distribution into a single buy.

And we’ve already started to invest in our integrated media solution, our software that will allow us to integrate online and off-line products together in a single optimized buy for our customers. So, we’re doing that today. We are a little bit ahead of our customers in that regard. They are not really there yet, but we think ultimately they are going to get to that point.

Chuck Cerankosky – Northcoast Research

All right. Thank you.

Operator

Thank you. Our next question comes from the line of Dan Leben with Robert W. Baird. Please go ahead.

Dan Leben – Robert W. Baird

Thanks. Good morning. Just when you look back within the Shared Mail business, what have been the historical indicators there of kind of early sectors that may turn, especially retail is one of the places we should look or is it elsewhere?

Alan Schultz

You know, that is a good question. I think grocery and drug is certainly a core component of the Shared Mail business and you know, when I look at the fact that grocery and drug was up a bit for the year, and then was up a bit more in the second half of the year, you can see that really aligns pretty nicely with those quarterly changes in revenue or rate of decline that I took you through for 2009. So what we saw is that as grocery and drugs started to increase their spending, it really started to have a pretty positive impact overall on the Shared Mail business. So, you know, I don’t know the answer to that for sure, but my guess is just from what I’ve seen so far grocery and drug might be the best indicator.

Dan Leben – Robert W. Baird

Okay, great. And then help us understand as some more of the FSI moves into the Shared Mail, are we going to see that from a revenue standpoint whether that is reported as Shared Mail or will it always stand as FSI or help us understand that decision process?

Alan Schultz

Yes, the way to look at it Dan, is that Shared Mail is just a distribution method just like newspaper is a distribution method. So the revenue from the FSI will continue to show up in the FSI segment regardless of how it is distributed. So the FSI business looks as newspapers as a distribution method, they look at Shared Mail as a distribution method. They pay the Shared Mail business in essence to distribute through Shared Mail just as they pay the newspapers to distribute. So I don’t – that’s kind of the way that works. From a Shared Mail perspective, I think I’ve informed you all that we distribute about 11.5 million circulation today through our Shared Mail package, and probably by the time we get to May that will be up near 14 million, circulation will be distributed through Shared Mail; May will be our next market list update.

Dan Leben – Robert W. Baird

Okay. So the way to think about it is in terms of external revenues there is no impact to Shared Mail, but given the fact that it is a distribution channel for FSI, there would be a positive revenue piece, but that is all in the expense base of FSI?

Alan Schultz

That’s correct. Yes, that is correct because the Shared Mail distribution is roughly 20% less on average than newspaper distribution.

Dan Leben – Robert W. Baird

Okay, great. And then just finally from me, just to go back to the local sales force, better effectiveness there in the Shared Mail, any specific things you would point to in terms of the reasons for the success you have had there?

Alan Schultz

No, I think what I would tell you is Shared Mail works to drive their business is the bottom line, and most of the clients that we talk to they don’t have anything else that drives more traffic to their store, the franchise, food retailers will say you know, anything that puts more butts in seats. There is just nothing that they have available to them that works better than our Shared Mail package. That’s the bottom line there.

Dan Leben – Robert W. Baird

So, simply the sales force becoming more efficient at selling that and having some data to support that as well as kind of getting over the changeover from AVDO. Is that the way to think about it?

Alan Schultz

You know, I think about it probably more from a client perspective, in this tough economic environment that we’ve been going through, clients are really scrutinizing their spending very, very carefully and when they scrutinize their spending, and they look at Shared Mail versus the alternatives what they realize is, is Shared Mail performing better than they anticipated, and as a result of that most of the small and regional clients have actually reduced their marketing spending, but they’ve allocated a much bigger portion to Shared Mail because it’s working so well.

Dan Leben – Robert W. Baird

Great. Thanks Alan.

Operator

Thank you. Our next question comes from the line of Bob Evans with Craig-Hallum Capital. Please go ahead.

Bob Evans – Craig-Hallum Capital

Hi, good morning and thanks for taking my questions.

Alan Schultz

Okay. Good morning.

Bob Evans – Craig-Hallum Capital

First, getting back to your flexibility on your buyback, I believe you said 60 million is available right now. Is that something that given the settlement can be restructured and has flexibility?

Alan Schultz

You know, it’s difficult to say. I mean obviously that would be you know, a negotiation with the credit facility holders. You know, I don’t know how they would respond to something like that. My general indication is they would not respond well to it. I think they would be much more amenable to some type of debt reduction versus share buyback. With that said, you know, in light of the fact that the settlement proceeds do go into EBITDA and earnings, and earnings is used to calculate this basket or pool, you know, the basket or pool, we would expect to be substantially larger in 2011 than it is in 2010. So although we’re a bit shackled in ’10, you know, those shackles will get loosened up quite a bit in ’11.

Bob Evans – Craig-Hallum Capital

Okay, thanks. And then also back to Shared Mail, can you – I think you had made comments I think there is a -- you are estimating about $8 million impact from package reductions this year, is that right? And then…

Alan Schultz

It is right, Bob, yes.

Bob Evans – Craig-Hallum Capital

And I’m just trying to get what type of offset might we see just from other initiatives in your local sales force efforts? I mean, how should we view Shared Mail from an annual basis net-net?

Alan Schultz

Yes, we haven’t really given you know, any revenue guidance. We’ve kind of limited our guidance more to the cash flow per share and the EBITDA. We haven’t really given a lot of guidance on the revenue side of the equation.

Bob Evans – Craig-Hallum Capital

No. I am not looking for a specific revenue number. I’m just wondering if you can give, I guess directionally the packet reduction impact is there enough to offset that with some of your other initiatives in terms of newspaper alliances, as well as other local sales force efforts.

Alan Schultz

Yes, we certainly think so. I mean when you look at it on a relative basis versus 2009, right in 2009, the revenue associated with discontinued packages was substantially greater than what we’re anticipating in 2008. In 2009 that drag was $34 million. In 2010, right now we’re estimating that drag as $8 million. So there is a whole lot you know, less to overcome in 2010 than what we had planned on overcoming in 2008.

Bob Evans – Craig-Hallum Capital

Okay. And maybe a somewhat similar question in terms of directional trends on the ROP business, the newspaper insert business, obviously the insert business very nice growth in ’09, the ROP was a challenge, but maybe less so towards the end of the year or as you look, as you go into ’10?

Alan Schultz

Yes, with the ROP business, we really, you know, we were getting hurt by both telecom and financial really throughout 2009. That’s why we were down $60 million in revenue. In the fourth quarter, you know, telecom really wasn’t so much of an issue because telecom spending really came back for us in the fourth quarter. It really became more of a financial services problem. While we pretty much lap all of that at the end of the first quarter. So once we get into the second quarter the comps get a whole lot easier than what we’ve been dealing with over the last year. So we just got to overcome this revenue drag for the first quarter than it is pretty clear sailing for the balance of the year.

Bob Evans – Craig-Hallum Capital

And the newspaper, the insert business how should we think of that?

Alan Schultz

Yes, the newspaper insert business, you’re – just to be clear about our strategy. Our strategy is actually not to show a lot of growth in the newspaper insert business. What we want to do is we want to capture newspaper inserts, we want to get a bigger share of that business, but what we really want to see happen is that business migrate to Shared Mail over time as newspaper circulations decline. So if this works the way we want in terms of this long-term five-year strategy plan, what you’ll see is not a lot of growth in Neighborhood Targeted, not a lot of growth in newspaper inserts, which is within Neighborhood Targeted, you’ll see that growth migrating into the Shared Mail business, and of course the advantage of that is the margins and that incremental revenue when it migrates to Shared Mail is substantially higher than what we get in newspaper inserts to the tune of three times. So that’s all part of the strategy and that’s why with this kind of modest you know, sort of single-digit growth in our long-term plan, we can get you know, double-digit bottom-line growth.

Bob Evans – Craig-Hallum Capital

Okay, thanks, and then one final question, on the vertical for the ROP financials, refresh my memory for financial services accounts for what ballpark percent?

Alan Schultz

You know, I don’t have it in front of me but I want to say it’s like 4%, I think financial services is of our total revenue.

Bob Evans – Craig-Hallum Capital

No, but I am saying of the ROP business?

Alan Schultz

Oh, of the ROP business, you know, I don’t know that off the top of my head, but I will tell you that you know, in the fourth quarter of 2008 financial services probably represented you know, somewhere between 40% to 45% of our business. So in the fourth quarter of 2008, it was a very big number. In the fourth quarter of 2009, it was obviously $30 million smaller.

Bob Evans – Craig-Hallum Capital

Okay. All right, thank you.

Operator

Thank you. Our next question comes from the line of Edward Atorino with Benchmark.

Edward Atorino – Benchmark

I got three questions. One you mentioned the FSI bookings, could you give us some sense of what the pricing is related to that, number one in the Neighborhood Targeted, could you just sort of give us a little idea of the trend by product line, and third in the International are you cycling through the divestiture and so we should sort of look at the sort of the current quarter as the new base. And then lastly, I am guessing that the guidance includes none of the $44 million in interest savings that you outlined on your last call?

Alan Schultz

Okay, Ed the -- I'll take them in the reverse order. The --

Edward Atorino – Benchmark

Okay. I had figured that you would do that.

Alan Schultz

The interest -- no, when we gave our guidance, obviously we didn't know about the settlement. So in terms of the you know, potential interest savings if we went to the route of debt reduction, we have not factored that into our cash EPS guidance for 2010. And that's why we said, you know, at the end of Q1, we'll update that guidance for whatever decisions gets made. As far as the divestures from our International, Digital & Services area, I think most -- we have lapped most of that because most of those divestitures really took place in the third and fourth quarter of '08.

So I think we're really through that. So that should be pretty clean in '10. As far as neighborhood targeted trends, you know, what I guess I would tell you is that you know, ROP, we are going to struggle in the first quarter as I said. We're going to be below last year's number. When we get into the remaining quarters, you know, I think the trend will be you know, pretty flattish. From the sampling and polybag perspective, the trend that we've seen so far is up. As I mentioned in my opening remarks, we have seen more sampling and polybag programs in client plans for the first half of the year.

We're actually seeing more programs executed so far in the first few months of the year. Whether those plans will come to fruition ultimately in the second quarter or not, we don't know yet, but the trend appears to be up. And again as I stated earlier, the goal on newspaper inserts is for it to be pretty flattish, and what we want to do is we want to grow it and migrate it into Shared Mail all at the same time. On FSI bookings, you know, what I would tell you is from what we're seeing so far, you know, kind of mid-single-digit price decline for '10, but you know, those pages are you know, covered under contract, and those contracts basically call for kind of mid-single-digit price declines, and at least 85% of those pages are covered by those contracts. So you know, no real surprise is there.

Edward Atorino – Benchmark

Okay, and the ’11 pricing same thing, I guess?

Alan Schultz

Well, the ‘11 pricing, you know, we don't know yet. There is not really much that has been up for discussion as of late. So -- and there is a little over 60% of that business, which is covered by these corporate contracts. So, you know, what's going to happen with that remaining 40%, you know, we just don't have any idea at this point Ed.

Edward Atorino – Benchmark

Have you gotten any business from News yet?

Alan Schultz

You know, we never talk about specific deals or contracts or customers. Ed, you know that.

Edward Atorino – Benchmark

Okay.

Operator

Thank you. Our next question comes from the line of Dan Salmon with BMO Capital Markets. Please go ahead.

Dan Salmon - BMO Capital Markets

Hi guys. Two questions, Alan you mentioned during your prepared remarks that the board has asked you to go do some analysis on how to use the funds from the settlement, and try to get your arms around some of these less clear elements like the News agreement, for example, and you also mentioned that you hope to update guidance in the next quarter’s call. Between now and then what is the timeline? When do you anticipate finishing the analysis going back to the board and perhaps a decision being made?

Alan Schultz

Well, we -- you know, we kind of doubled up on board meetings here in the month of February. We actually had a board meeting just a couple of weeks ago to discuss what the options would be that would be analyzed. We've got another board meeting actually coming up this Wednesday to look at that preliminary analysis on those numbers. And my assumption is that this meeting coming up on Wednesday, there'll probably be some additional analysis required and so, I can't tell you exactly when a decision will be made, but I will tell you our board is doing double duty to try to make that decision as quickly as they can. So you know, there are willing to do the work. It's just a function of we need to get the analysis done and answer all their questions.

Dan Salmon - BMO Capital Markets

Okay, and then the second question just have been reading a lot of the CPG clients, there was some public comment last week, and it sounds like we are up for a lot of new product launches out of that large customer base, have you started to have any conversations with those customers about new product launches and how that is working into their plan this year?

Alan Schultz

Yes, we have. We tend to get you know, involved fairly early on in these new product launch discussions, and as I said in the first quarter, we are clearly executing more sampling programs than we did last year, and we do see more in the plans for the second quarter. So what I would tell you is if the CPGs are publicly saying they are going to be introducing more new products that you know, we have evidence of the same.

Dan Salmon - BMO Capital Markets

Okay, great. Thank you.

Operator

Thank you. Our next question comes from the line of Jonathan Levine with Jefferies & Co. Please go ahead.

Jonathan Levine - Jefferies & Co.

Thanks. Yes, I just wanted to touch a little bit in terms of kind of the digital strategy, and I just wanted to see if you can give us a little color in terms of what are -- I guess, where are we in terms of kind of the run rate for those revenues, what is your competitive position, where the market share is at this point?

Alan Schultz

Yes, I mean the revenue is still relatively small. You know, not really anything significant at this particular point in time. You know, I would say our market share is still relatively small in this space, but I will tell you that I think we're growing at a faster rate than our competitors. So our rate of increase in digital coupons is faster than our competitors. So we are building share in that regard, and I think probably in the second quarter in particular you'll probably see a pretty significant up-tick in our coupon distribution electronically again.

So small today, and then there is also a lot of investments in these electronic platforms that we're making. In fact you know, a very, very large percentage of our CapEx is being spent on new business development in the digital arena and on these electronic platforms. In fact, I would say and Bob I think can vouch for me on this. I think almost, I mean probably 90% of our CapEx is going into the new business development today.

Bob Recchia

Or refresh on technology which supports it.

Alan Schultz

Yes.

Jonathan Levine - Jefferies & Co.

What about in terms of opportunities in the M&A market to go ahead and kind of expand it through and acquisition?

Alan Schultz

You know, we are -- kind of our view today is that most of the digital assets that we are aware of are significantly overvalued, and we always do an analysis of buy versus build, and whenever you do that analysis on buy versus build, you realize that you can build it for a small fraction of the buy price, and so at this point in time, we are clearly more in the build mode than we are in the buy mode.

Jonathan Levine - Jefferies & Co.

Okay, thank you.

Operator

(Operator instructions) Our next question is a follow-up question from the line of Chuck Cerankosky with Northcoast Research. Please go ahead.

Chuck Cerankosky - Northcoast Research

Thanks again. Alan, could you give us an update on the status of some of the retailers who have been testing Shared Mail. You had mentioned Coles in the past, and what their feedback has been, and who else might be testing?

Alan Schultz

Yes, I mean I think, Cole’s feedback has been very good. You know, we're able to reach households that they just can't get to anymore with newspapers. So I think that's been positive. We do have a couple of other clients that are testing that are you know, of significant note to us, but they're just in sort of one market test today, and we haven't gotten feedback on those. They are just starting up I think relatively soon here. They are testing in the first quarter and, you know, I'd be uncomfortable giving you the names of those customers, but if you look very closely in our package in Philadelphia, you might find them.

Chuck Cerankosky - Northcoast Research

All right. You mentioned like -- if I understood you right, your return on sales triples when you are moving insert into the Shared Mail, what are the mechanics behind that. Is that going from being merely an agent to actually distributing the product?

Alan Schultz

Yes. That's basically what it is. When you look at newspaper inserts in essence, we sort of make almost like an agency commission out of it. So, you know, generally our gross margin on those is may be in the 15% neighborhood. When you're moving into our Shared Mail package, because of the dynamics of the Shared Mail package, and the operating leverage of the Shared Mail package, you get the opportunity to sort of triple those margins.

The reason for that is Chuck is that we've got about 20% of our markets that are underweight, the packages are underweight. So when we move that distribution into Shared Mail, in essence 20% of the circulation is likely underweight and the margin there is exceptionally high, right, because there is almost no distribution cost because we've already paid for the postage for those and we're not distributing the full 3.3 ounce weight that we are able to distribute. And then when you go into an overweight package, the cost of an additional ounce in a package when it is overweight is significantly less than the cost per ounce of the first three 3.3 ounces that you're buying from the Postal Service. That's where that's operating leverage comes from and that's why the margins kick up.

Chuck Cerankosky - Northcoast Research

Great. Thank you.

Operator

Thank you. Our next question is a follow-up question from the line of Bob Evans with Craig-Hallum Capital. Please go ahead.

Bob Evans - Craig-Hallum Capital

Hello again. Can you comment -- you have seen nice margin improvement sequentially throughout the year in ’09 in terms of gross margins, can you comment a little bit in terms of how we should we think about Q1 from a seasonality standpoint, Q4 versus Q1 and just kind of overall thoughts on margin trends?

Alan Schultz

Yes, you know seasonality -- Q4 is our biggest quarter of the year, you know, bar none. So you know, you really can't look at our business sequentially in that regard. Q1 is typically one of our softer quarters, and you almost see, you know, kind of progression as the year goes on, and I think generally you know, we'd expect you know, maybe 40% to 46% of our earnings to come from the first half of the year, and then the balance in the second half of the year would kind of be the way we would see it with the biggest quarter being the fourth.

Bob Evans - Craig-Hallum Capital

Okay, but in terms of kind of margin trends, I mean, we have seen some kind of structural improvement in ’09. Are all those factors plus your kind of greater weighting as it relates to underweight packages for Shared Mail in ’10, I mean should we continue to see those margin trends or can you give us any sense of magnitude?

Alan Schultz

Yes, we continue to expect margins to increase in '10.

Bob Evans - Craig-Hallum Capital

Okay.

Alan Schultz

Yes. I really can't quantify for you, but I think the answer is yes. You know, when you just -- if you just look at it from a cost perspective and not a revenue perspective, the cost improvements that we made in 2009 were sort of being installed as the year went on, so they tended to be accumulating. So you know, we should get the benefit of that as we go into 2010, and then of course, the big question is what happens from a revenue perspective, and you know, if we start to see some pickup in terms of revenue, then with the new cost structure sort of fully in place at some point in time you know, in '10 with some revenue growth layered on top of that, you really get the benefit of that operating leverage to the bottom line.

Bob Evans - Craig-Hallum Capital

Okay. Thank you.

Operator

Mr. Schultz, I show there are no further questions at this time. Please continue with any closing remarks.

Alan Schultz

I would just -- in conclusion, I am really incredibly proud of our team and the results that they accomplished in 2009. It was great work. It was done on the cost side of our business. It has really improved our operating leverage as we're just talking about, and it really has positioned us and put us in a place where we can just get modest revenue growth and create significant bottom-line improvements. You know, with the distraction of litigation behind us, we are really looking forward to focusing all of our time and attention on growing the business.

We continue to benefit from the fact that consumers love deals and are searching for value. We see signs clearly that some of our client marketing budgets may be increasing in 2010, and our Shared Mail business really was gaining momentum throughout 2009, and we hope that'll continue to do so in 2010, and our competitive advantage of combining newspapers and Shared Mail distribution together has really become a reality. We're enthusiastic about RedPlum.com and our progress in the digital arena, and I guess in summary and in short, I would say it's really an exciting time to be at Valassis. Thank you. Appreciate you all attending the call today and have a great morning.

Operator

Ladies and gentlemen, if you would like to listen to a replay of today's conference, please dial 1800-406-7325, and for international participants 1-303-590-3030 and entering the access code 419-5229 followed by the pound key. The replay will be available until March 8, 2010. This concludes Valassis fourth quarter and year-end December 31, 2009 earnings conference call. Thank you for using AT&T and for your participation. You may now disconnect.

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Source: Valassis Communications, Inc. Q4 2009 Earnings Call Transcript
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