Primedia Q3 2007 Earnings Call Transcript

Primedia (PRM)

Q3 2007 Earnings Call

November 6, 2007 10:00 am ET

Executives

Dean Nelson - Chairman

Bob Metz – President, CEO

Kim Payne - CFO

Analysts

Michael Meltz - Bear Stearns

Robert Simmons - Oppenheimer

David Clark - Deutsche Bank

Scott Cohen - Amber Capital

Presentation

Operator

Good day everyone and welcome to the Primedia conference call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Dean Nelson, Chairman. Please go ahead, sir.

Dean Nelson

Good evening and welcome to Primedia's third quarter conference call. I'm pleased to be joined by Bob Metz, our CEO; Kim Payne, our CFO; and, other members of senior management. As always, we refer you to the Safe Harbor disclaimer spelled out in our earnings release.

A reminder that any non-GAAP terms mentioned on this call are reconciled to GAAP in the earnings release and the company's SEC filings.

On August 1st, 2007 Primedia closed the sale of its Enthusiast Media business to Source Interlink for approximately $1.2 billion in cash. The Enthusiast Media management team worked very hard over the prior 18 months refining the strategy and more importantly, executing against that strategy. In the end, we believe we received a very good price for a well-run business in an attractive segment.

Primedia now has one remaining business, Consumer Source. The board believes that this business has meaningful upside. Our position is not unlike where we were with Enthusiast Media approximately two years ago; a leading market presence with additional growth opportunities, particularly on the Internet. Therefore, our response to the opportunities should parallel our prior experience at Enthusiast Media, to aggressively execute against the largest opportunities.

Finally, our process to move our corporate headquarters activities to Atlanta is well underway and on schedule, and that transition will be fully completed by the end of the first quarter in 2008.

Now, I'll turn the call over to Bob Metz, Primedia's CEO.

Bob Metz

Thank you, Dean and good evening. Today, I will be providing with you a quick overview of Primedia's third quarter 2007 operating results and I will discuss the progress that we're making against Consumer Source’s key strategies and initiatives. Kim Payne, our CFO, will then get into a more detailed discussion of our financial performance for the quarter and year-to-date and then we will open the line for questions.

I'm excited to be CEO of Primedia. Consumer Source is a great business with a history of consistent revenue growth, having delivered annual revenue increases every year in the more than 30 years since I've been with the company, along with strong and stable cash flow.

In brief, during the third quarter, we delivered revenue growth in each of our businesses except Auto Guides. While we are disappointed in our overall third quarter results due in part to current market conditions along with our own actions, we are being proactive in pursuing opportunities to drive profitable growth.

I'll now review the third quarter performance for each of our product lines along with some of the initiatives we have in place to improve the performance in more detail. Starting with the largest, Apartments. Apartments consist of Apartment Guide, ApartmentGuide.com and Rentals.com and represented 77% of third quarter advertising revenues. Revenues grew 2.6% year over year and the third quarter was the first quarter in over two years that Apartment Guide and ApartmentGuide.com delivered year-over-year growth.

As a reminder, Apartment Guide and ApartmentGuide.com is our product line serving apartment communities with an average of 50 units or more. Our product is a unique one in that it is sold as a blended medium, utilizing traditional print combined with the power of the Internet. Apartment Guide print editions are distributed through more than 60,000 Distributech locations and ApartmentGuide.com reached more than 4 million unique visitors during the quarter.

Importantly for many of our customers, Apartment Guide is the single greatest source of our new leases and we are able to provide them with tracking capabilities to demonstrate our effectiveness and the favorable return on their investment.

This quarter's return to growth was due to successful efforts to strengthen our salesforce and improve customer relationships, while providing them with the tools to better track results. One of our competitive advantages is our ability to demonstrate the effectiveness of our products in generating leases with tools such as Max Leases and call tracking.

Max Leases, which we launched and started rolling out at the end of June, is a web-based lead management solution for multi-family property managers. As the software continues to gain acceptance, it will enable property managers to track leads and results more accurately from all sources while providing them with the good management tool. It also reinforces the value and results that we offer.

During the third quarter, Apartment Guide and ApartmentGuide.com provided clients with over 2 million leads. The number of leads trackable to Consumer Source almost doubled from last year, due to the effectiveness of our distribution but also due to some of the enhanced tools I just described.

While our print guides are a very important part of our value proposition as an integrated print and online medium, we're also innovating and finding new opportunities to better leverage our leading market position and accelerate online growth. A critical component of our continued online growth is driving traffic and we have added staff that are focused on search engine optimization and expanding our online distribution.

Apartment Guide product line has a few key drivers, the most important of which is occupancy rates. In recent years, occupancy rates have been driven to historically high levels in the high ‘90s as apartment buildings were being converted to condos and new construction was concentrated on houses and condos. With vacancies so low, many apartment management companies cut back on or completely eliminated advertising as demand was outstripping their supply.

In today's markets, we're seeing far fewer conversions to condos. Over time, as apartment conversion continues to decrease and construction of new apartment communities emerges, we expect to return to a more normal environment with occupancy rates returning to the mid to low ‘90s, which would be quite favorable for our business over the long-term.

Within Apartments, Rentals.com continued to outpace our other product lines. Single unit rentals make up approximately 85% of the total rental industry. During the third quarter, Rentals.com revenue grew a solid 29% on a pro forma basis, reflecting the ongoing opportunity in this market and our investment in capturing it.

As we have expanded both organically and through acquisitions, we are now the online leader with the most paid small unit listings on the Internet and we have low single-digit market penetration, which means there are still meaningful opportunities.

To better capitalize on the opportunity that our leading market position offers to us, we're make strategic investments in the business.

First is the salesforce and as of the end of the third quarter, Rentals.com achieved full salesforce staffing. We expect to begin to see the revenue impact from these salespeople in the first half of 2008, as there is a typical lag period between the hiring of salespeople and the corresponding increase in revenue. This lag period impacted our expenses in the third quarter, as these expenses were not aligned with our revenues and this disparity will continue into the fourth quarter.

Second is marketing. In the third quarter, we conducted a one-time limited Rentals.com targeted marketing and advertising campaign. We believe that the best way to continue to drive revenue growth is to deliver results for our advertisers and one of the ways to deliver results is to provide traffic to the listings. The campaign was aimed at driving traffic to the website to increase links for property owners and building brand awareness among potential advertisers. The campaign was effective in generating leads and increasing sales volume but not at an acceptable cost, and we're working on other ways to achieve the desired results.

The third element of our strategy is finding opportunities for line extensions and providing more targeted offerings. For example, over the summer we launched Vacation Rentals and late in the third quarter began to roll out a Spanish language version and a special section for senior living, though it is too soon to obtain meaningful results from these extensions. We believe there are many other similar untapped niches which we are analyzing and we will update you on our progress over time.

The next biggest product line, New Homes, which consist of New Home Guide and NewHomeGuide.com represented 19% of third quarter advertising revenue, an increase by 10% year over year. Despite weakness in the general housing industry, particularly new home sales, some of our new home markets were still able to grow due to our strong customer relationships, our value proposition to advertisers and variances in market conditions across the country. The geographic diversity of New Home Guides helps to moderate the impact on our business and based on the results, performance varied from market to market.

We have proven our ability to provide an effective advertising model in all except the best and worst of the New Homes markets. In areas where open inventory is extremely low and demand is extremely high, many developers don't see the need to spend additional dollars on advertising. This is what we saw during the real estate industry's boom in areas like Arizona and Nevada. On the other hand, where inventory levels are at extreme highs and developers are struggling to address the difficult mortgage environment and declining home prices, some builders are facing a tight financial situation and are unable to spend on marketing to move their inventory as they struggle to stay afloat. This is what we're seeing now with some new homebuilders who have developments in parts of the Midwest and Northeast and we don't expect improvement in these markets in the near term.

Providing a bit more granularity, 40% of our markets are located in the most challenged areas, but 60% of our markets are growing. However, there are many markets that fall in between those two extremes where builders continue to advertise their developments and therefore, New Home Guide has continued to grow primarily due to ongoing gains in the Southwest, Florida and Texas. So, while the New Homes product line has been impacted by real estate market conditions, the strong relationships we have established with homebuilders along with the measurable results we deliver to our customers is resulting in continued year-over-year growth.

However, in light of the uncertainty in the current mortgage and real estate markets, we're closely monitoring this product line so we can move quickly to right-size if the markets worsen. We also continue to pursue opportunities to leverage our existing infrastructure and add line extension opportunities. During the third quarter, we successfully launched a New Home Guide in Richmond and a Professional Edition Realtor Data Book in Charlotte. Revenues in both of these exceeded our original projections and are significantly outpacing the average 18 months it takes to breakeven when we open a new market.

We believe there are other new market opportunities, but success is highly dependent on specific market conditions. We intend to pursue new opportunities, but we will be very deliberate in evaluating each prospect before we move forward. We now have 39 New Home Guide publications in 27 markets and similar to Apartments, New Home Guide ads are sold on an integrated basis with print and Internet.

Our third business, Auto Guide, which consists of Auto Guide and AutoGuide.com, represented 4% of third quarter advertising revenue. Auto Guide continues to underperform and we're disappointed in the results. During the third quarter, revenues decreased approximately 30% year over year, including the three markets that we have exited in the past year.

We launched the Auto Guide business over two years ago to see if we could leverage our existing infrastructure and develop a profitable business in this base, but have had limited success. We are now focusing on the markets that we believe to have the greatest potential due to economic conditions, area competition and strength of our field support.

In markets where we have determined that achieving a turnaround would require time and/or investment that would not produce an attractive return on investment, we have been exiting those markets. During the third quarter, we exited New England and Triangle, North Carolina markets and are currently in seven markets. We will make a decision on the strategic direction of our Autos product line by the end of the year.

Moving on to distribution, as I have mentioned several times, one of the key benefits of our products is our “printernet” approach. This strategy for our Guides offers unparalleled rates and value to advertisers by offering an integrated print and online product. Our research has shown that the combination of print and online delivers results that are two to three times better than either method alone.

Our objective for Distributech is to optimize our distribution network to the benefit of our publications by expanding store locations through new and existing retail programs. Distributech is also a revenue generating business where we distribute guides for other publishers. While there are other publications on our racks, by owning the distribution, we're able to secure optimal placement for our guides.

Distributech had a challenging quarter as a combination of lost revenues from a slowdown from customers who publish within the resale home sector combined with an increase in expenses as we added over 2,000 retail locations as part of our ongoing strategy to optimize our distribution network.

As of September 30, 2007 we had approximately 20,000 retail locations. During the third quarter, Distributech revenue increased 5.7% while distribution expenses increased approximately 10.5%. This revenue growth was slower than we originally anticipated as some our third-party distribution customers who publish resale home guides scaled back or ceased operations. These losses continue to negatively impact us, but we are pursuing new categories in order to diversify and expand our customer base. Additionally, we expect revenues to better align with expenses as we monetize our newly expanded distribution.

Our legacy is in print and with a 32-year history, that side of the business has been thoroughly developed. However, we continue to see equal, if not greater, opportunity on the online side. Our web sites reach more than five million visitors on average per month and our online presence, particularly through Rentals.com, continues to grow. While we're proud of what we've established to date, we believe that there is still a lot more we can do.

Looking ahead, we will pursue long-term growth opportunities. We also must improve our execution. Having the right managers in place in each of our core businesses and locations is critical. This is a relationship business and a manager's ability to build a team around him or her that can drive new businesses is how we will improve and sustain our performance. This is evidenced by the progress we're making in our Apartments and New Homes businesses.

However, we recognize that we have further opportunities. We need to better leverage our unique product lines and lead a network of online and print distribution in order to improve our returns. We thank our team for their effort and our shareholders for their patience as we reinvigorate the business and begin to increase the value of Primedia.

Thank you, and let me pass the call to Kim Payne, our Chief Financial Officer.

Kim Payne

Thank you, Bob. For the three months ended September 30, 2007 our third quarter revenue increased 2.5% to $83.3 million compared to $81.3 million for the comparable quarter last year. Total advertising revenue increased 1.8% to $68.5 million from $67.3 million last year. The increase in revenue was primarily related to growth in our product lines, Apartment Guide, Rentals.com, New Home Guide and Distributech, partially offset by a decline in Auto Guide.

With regards to our corporate costs, as we previously communicated last quarter, the third quarter was still less than straightforward for a couple of reasons. One, we closed the sale of Enthusiast Media in the quarter while we still incurred costs associated with the business through July.

Second, the corporate transition to Atlanta was in the early stages and we still have residual resources in New York that will remain until we get through the fourth quarter 2007 close. Through the first quarter 2008, we will still have nonrecurring expenses that will go away later in the year and we expect to be on course to reach an $11.7 million run rate.

Consumer Guides adjusted EBITDA which we formerly refer to as Consumer Guides segment EBITDA, decreased 8.3% to $19.9 million from $21.7 million in the same period last year. The decline in adjusted EBITDA was driven by increased selling expenses due to higher salary, commission and benefits cost as a result of achieving full sales staffing at our high potential Rentals.com unit. In addition, we had increased distribution expenses related to the company's strategic decision to invest in its retail distribution network, partially offset by the revenue growth and lower printing expenses of our guides.

Operating income declined to a $0.7 million loss from income of $8.8 million for the comparable period last year. In addition to the items I mentioned impacting EBITDA, the decline in operating income was driven primarily by a higher provision for restructuring costs of $6.6 million including the transition of corporate functions from New York to Atlanta and the exit from two Auto Guide markets.

Interest expense declined by 57% to $14.1 million from $32.8 million in the third quarter of 2006, due to the significant reduction in debt, which I will detail in a moment. As expected, due to the capital restructure, Primedia incurred a loss of approximately $44.3 million on the redemption of debt including the write-off of deferred financing fees. The company estimates that it has in excess of $700 million of net operating loss carryforwards or NOLs, which are available to offset future taxable income.

The loss from continuing operations was $38.1 million or $0.86 per share, which includes approximately $22.1 million in tax benefit, compared to $37 million or $0.84 per share in the third quarter of 2006.

Turning to our balance sheet, as of September 30th, 2007 Primedia had a cash balance of $46.8 million compared to $5.8 million at the same time last year. Debt outstanding was $252.9 million, down from $1.3 billion last year. The reduction in debt was driven by the repayment and redemption of much of our outstanding debt.

During the third quarter, we repaid all $492.5 million of our term loans, redeemed all $410 million of our 8 7/8% senior notes, redeemed all $122.5 million of the senior floating rate notes and redeemed $292.2 million of our 8% senior notes. We have approximately $2 million of the 8% notes outstanding, which we intend to redeem when they become callable in the first half of 2008.

We completed financing for a $350 million senior secured bank credit facility, consisting of a $100 million revolver and a $250 million term loan. Importantly, the redemptions and refinancings that I just discussed have resulted in a significant reduction in our net debt and increased financial flexibility.

During the quarter, free cash flow which includes our discontinued operations until they are sold or shut down, was negative $15.1 million compared to a positive $13.8 million in the same period of 2006, primarily driven by the timing of cash interest paid due to the redemption of senior debt and due to the sale of Enthusiast Media on August 1, 2007.

Year-to-date, through the third quarter, Consumer Guides' capital expenditures was $10.1 million and we estimate full year Cap Ex of approximately $15 million, which is in line with our expectations.

Let me now discuss the restatement due to the non-cash error in the preparation of the company's accounting for income taxes under FIN 48. Specifically, the company discovered that the benefit for income taxes was overstated by approximately $1.4 million for both the three and six months ended June 30, 2007, while income from discontinued operations net of tax was overstated by approximately $0.5 million for the same period.

As a result, the company will restate its interim financial statements for the three and six months ended June 30, 2007. The correction of the error will not have any impact on the company's cash or the company's net operating loss carryforwards that are available to offset future taxable income and have no bearing on operating income or day-to-day funding of the business.

Turning to guidance, the company continues to estimate full year revenue growth of flat to low single-digits and anticipates that full year Consumer Guides adjusted EBITDA, formerly referred to as Consumer Guides segment EBITDA will be approximately flat compared to 2006.

Our largest product line, Apartment Guide and ApartmentGuide.com will continue to deliver sequential quarterly revenue growth in 2007 while full year revenue will still be lower than 2006. Full year revenue should increase in New Home Guide, Rentals.com and Distributech, while full year revenue for Auto Guide will decline compared to 2006.

The company anticipates that it will reduce its annual corporate overhead expense from $28.3 million in 2006 to a run rate of approximately $11.7 million annually, including approximately $2 million of corporate overhead, which has already been allocated to the Consumer Guides business. The company believes that the majority of corporate overhead expense reductions be will be completed in 2007 and that there will be nonrecurring costs associated with reducing its corporate overhead expense.

With that, I would like to open the line for questions.

Question-and-Answer Session

Operator

(Operator Instructions) We'll take our first question from Michael Meltz - Bear Stearns.

Michael Meltz - Bear Stearns

Your guidance for full year EBITDA -- just so we're clear -- you're saying approximately flat. Are you guiding to down EBITDA for the full year? I just want to clarify that. Even if it's down a little bit, I just want to make sure I understand what you're saying.

Secondly, on NOLs, I think back in August, you talked about having a little bit over $500 million was your estimate at the time. Can you talk about how that has been grossed up to this level and how much confidence you have in that number?

Third, on the net debt number, does that include all fees or is there a tail on Enthusiast Media fees, so that net debt number is actually probably a little bit higher than that $206 million or $207 million you were talking about?

Kim Payne

I'm going to try to tackle all of these. On the guidance question, we're saying flat and your question is could it potentially be down, even if a little bit?

Michael Meltz - Bear Stearns

I'm not saying potentially. When you're saying approximately flat, are you saying flat or down?

Kim Payne

Well, it could be down slightly to up slightly.

Michael Meltz - Bear Stearns

And that would incorporate better expense performance or better EBITDA performance in the fourth quarter?

Kim Payne

Right. On NOLs, the $500 million was an estimate prior to selling Enthusiast Media. After the sale and through all the current evaluations and analysis, we're around $700 million. We do feel confident that that is a good number based on all of the information that we have.

On the net debt, we do still have some items outstanding, specifically the taxes have not been paid on the gain yet. We're still working through that component. So, that's would be the biggest driver that would be impacting that net debt.

Michael Meltz - Bear Stearns

Roughly, what's that number?

Kim Payne

Roughly, as we outlined in the earnings release, it is around $31 million, a little north of $31 million, that estimate.

Michael Meltz - Bear Stearns

On Apartment Guides, you're saying you'll do better as you view it in Q4 than the $52.4 million you did in Q3? Can you just tell us what the year-ago number was? So 4Q06, what the base number is?

Kim Payne

Let me see if I've got that one handy for you.

Bob Metz

Kim, we can follow up on that if you don't have it handy.

Kim Payne

Yes. Let me follow up with you on it.

Michael Meltz - Bear Stearns

On New Homes, Bob I don't think I understand this; 40% is in challenged markets, 60% is in growing markets?

Bob Metz

What we were trying to say there, Michael, is that in essence, 60% of our books are growing while 40% of the books are not growing.

Michael Meltz - Bear Stearns

You grew 10% in the quarter. So, how big is the gap? The 60 that were growing, what were they up?

Bob Metz

They netted out to 10%. We have not tried to break out the markets.

Michael Meltz - Bear Stearns

Let me ask it this way, Bob. How bad are the declines in the challenged markets?

Bob Metz

I think every one of those markets is still profitable. It is not that the businesses are in trouble. It is just that the growing markets weren't growing probably as strong as the markets that were going backwards were losing. But keep in mind it is 10% up year over year.

Michael Meltz - Bear Stearns

Maybe magnitude, can you give us a sense? Are they down 5% to 10% or are they down over 20% in these markets?

Bob Metz

We haven't actually discussed any individual market performances. But again, I don't see any of the markets that are in trouble on our New Home Guide side.

Operator

Your next question comes from Robert Simmons - Oppenheimer.

Robert Simmons - Oppenheimer

I was wondering if you could give an idea of how much of your business is online versus print?

Bob Metz

We don't actually break out revenue in print versus online, because we sell it as an integrated product. Because of that, when we sell an ad in the Apartment Guide or New Home Guide, it is combined with the Internet and other than Rentals.com and some additional revenue we pick up from traffic to our sites, the majority of the revenue is really combined with online and print.

Robert Simmons - Oppenheimer

For Rentals.com, you said revenue grew 29% in the quarter. Can you give me an idea of how much, what kind of a percent? Are we talking 1% or 10% or what? I don't need an exact number, but just a general area.

Kim Payne

Can you clarify?

Bob Metz

Are you asking what percentage of our revenue?

Kim Payne

As a percent of the whole business?

Robert Simmons - Oppenheimer

Yes, of Apartments.

Kim Payne

We haven't disclosed that.

Robert Simmons - Oppenheimer

You said that New Home Guides, you have 37 publications currently. Do you have the numbers for apartments and autos?

Kim Payne

We do. I can get the specific numbers on that. We’ll get back to you on that one.

Operator

Your next question comes from David Clark - Deutsche Bank.

David Clark - Deutsche Bank

What percentage of Distributech revenue comes from existing home sales related products, at least in this past quarter?

What was the same-store New Home Guides growth for the quarter or is that 10% number a same-store number?

Bob Metz

The same-store New Home Guide growth not including our new markets was approximately 7% year over year. Kim, do you know what percentages of resale books are on our racks?

Kim Payne

We haven't disclosed that.

Operator

Your next question comes from Michael Meltz - Bear Stearns.

Michael Meltz - Bear Stearns

The corporate expense in the quarter, I understand you're sticking it out at an $11.7 million run rate once you get to it. But can you give us a sense as to what it is going to look like in Q4? Is it going to be close to what you did in Q3?

Kim Payne

It is going to be less. This quarter was the height of the transition cost and some of the carryover related to that; it will be less. It will not be at that run rate yet, of the $11.7 million because we do still have overlap. We're going to have staff here in Atlanta, staff in New York so as we transition, some of those costs will overlap.

Michael Meltz - Bear Stearns

Can you give us a sense, Auto Guides, what is it on track for the year in terms of EBITDA losses?

Bob Metz

We stated in the last earnings call that it was in the millions but we didn't get anymore specific than that.

Operator

Your next question comes from Scott Cohen - Amber Capital.

Scott Cohen - Amber Capital

A quick follow-up to the NOL statement. Specifically, could you give us a sense of the expiry schedule of those NOLs?

Kim Payne

Could you repeat that question?

Scott Cohen - Amber Capital

Just to get a sense of the expiry schedule of the NOLs, how long are those NOLs essentially good to be used?

Kim Payne

Approximately 14 years is what we're looking at before they expire.

Bob Metz

Before the first ones expire. They've got a long way.

Operator

At this time, there are no further questions. Mr. Metz, I will turn the conference back over to you for closing comments.

Bob Metz

I would like to thank everyone who listened and participated in our call. Good evening and thank you very much.

Operator

Ladies and gentlemen, this will conclude today's Primedia conference call. We do thank you for your participation, and you may disconnect at this time.

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