Am I Crazy to Own Gannett?

A subscriber doubts my mental sanity.

To summarize his remarks:

You should be crazy to pick Gannett (GCI). Don’t you know that internet will kill this business?

Yes, I know. As cars ought to kill the train business, airplanes exterminate all the other transportation businesses, television kills the cinema business, etc, etc. Oh, and I forgot: video killed the radio star.

Internet then was presented as a real serial killer; it should kill almost every other communication business: books, printing, telecom, newspapers, you name it.

In fact, all those businesses are still around. They suffered, scaled back, restructured, reinvented themselves and even found a way to profit from the new possibilities offered by their supposed killer.

So I humbly suggest to take Microsoft's (MSFT) CEO’s position on this matter - that newspapers will not exist anymore ten years from now - with a grain of salt.

Of course, a lot of the companies operating in those sectors were forced out of business, and many others will fail in the future; just the stronger ones did and will make their way out of the challenge.

Is Gannett one of them? I think it has a strong chance. Its top management may be highly remunerated, but judging from their past and even present performance, they don’t seem to be stealing the money. They did not do stupid things such as over pay for acquisitions of peers at the top of a cycle, loading the company with tons of debt (the McClatchy (MNI) way), and Gannett’s operating performance has been stellar in the past years. In the last ten fiscal years to 2007, the company has managed to deliver a whopping $53.18 per share in structural free cash flow, nearly 3 times its current price.

Boy, THAT’S a performance!

Just past splendor? Let’s keep on running cold numbers.

In the last quarter, the company had sales that were down 10.9% year over year, while EBITDA was down 22.6% over the same time span; EBITDA margin was down less, just 13.2% from 28.8% to 22.6%. So things seems really difficult. But if you compare the last quarter to the precedent, you’ll see sales up 2.45% and EBITDA up 8.7%, while EBITDA margin was up nearly 6%, from 23.6% to 25%.

Moreover, if you go to the old cool cash, you’ll find out that structural operating cash flow (i.e. CFO before changes in the working capital and deferred tax, my preferred way to analyze a company’s cash power) was actually better in the first half of this year compared to last year, scoring $3.41 per share vs. $2.98, up a fine 14.4%. That cash from operations covers 13.4 times the capital spending vs. 11.64 last year, and 4.2 times the dividend. It’s true that last year it covered the dividend 5 times, but in the meantime, the dividend has increased 30%. Gannett yields 8.6% at its current stock price.

Are you worried about the debt? You should not, in my humble opinion (even if I’d like to see a smaller figure here). Total debt stands at $4.3M, a decrease of 5.1% yoy, but net debt decreased much more, -15.6% at $3.7M. If you annualize this year's first half structural CFO, that figure could cover the net debt in less than 2.5 years. Besides, the interest coverage has gone from 8.36 times in last year's  second quarter to 9.77 times this year.

In short, this dying business has generated an average annual structural free cash flow of 5.32 $ in the last ten years to 2007, $4.41 in 2007 fiscal year and $3.46 in the first half of this year alone.

I’d love to die this way.

It’s true that the business is slowing and the company has quite a challenge to face, a shift of paradigm. But it’s also true that its expertise could very well capitalize on the new opportunity. The moat of an established publishing company (Gannett is one of the world leaders) can’t be seriously challenged by you, me or start-up companies, even in the internet era. All the Googles of this world will not be able to completely eat its lunch; they will keep a defendable niche and even counterattack, exploiting the convergences of the contemporary world’s media. Guessing about the future of a business resembles prophecy more than analysis, but that’s true for everyone.

Today you can buy Gannett for $18.9 - 61% less than one year ago.

I could be very well crazy, but if someone offers me to buy a business whose enterprise value discounts just 6.64 times the average annual structural FCF of the last ten years, 8 times that of 2007 and 5.1 times that of the first half of this year annualized, well, I'd buy.

After all, I’m not betting the ranch.

Disclosure: Author is long GCI common, short GCI call.

Comments

[Dan Jacome:]

"you’ll find out that structural operating cash flow (i.e. CFO before changes in the working capital and deferred tax, my preferred way to analyze a company’s cash power)..........."
======================...

why? I like the article, but you don't describe why this is the preferred way to look @ CFO. Call me old skool, but where I come from, investment in WC ties us cash. So how do you arrive @ CFO whilst backing these out?

2008 Aug 11 05:03 AM

[Castrese Ti...:]

They tie up capital this quarter/year, they'll free it next quarter/year. At the end those changes annullate themselves as time goes by. Moreover, those capital requirements almost always are satisfied through lending facilities.
I consider them just noise most of time, and I think it's better to dismiss them when you want to know a company's (other than insurance and banking companies) real operating cash power. At the same time I add back capital cashing (proceeds from PPE sales) to get the real FCF.
Of course, I don't dismiss them completely. The real operating cash power is just one the aspect when you analize completely a company (the most important anyway, as I think); I consider them for other aspects.

2008 Aug 11 06:05 AM

[exNewspaper:]

Sure sounds like a lot of makeup for that pig

2008 Aug 11 07:44 AM

[icandoitdon:]

i agree with the analysis. GCI will be a surivor and the stock is dramatically oversold.

2008 Aug 11 11:09 AM

[MattD:]

What I would like to know is what do they have in the pipeline? The numbers are great relative to the price, but does this company have anything to look forward to?

Extremely thorough fundamental analysis with little to no technical analysis.

2008 Aug 11 11:53 AM

[LennyLichte...:]

Gannet has decreasing revenue on a business line that is unlikely to grow. Gannet cannot cut costs and hope to grow at all. Newspapers have certain fixed costs associated with their operations. Cutting back on journalistic/editorial talent will erode the value proposition they provide and make them more vulnerable to internet competition. Their future business will be far, far, less profitable at the current price point of a newspaper.

Valuation is necessarily forward-looking. It is reasonable to assume that Ganett will never increase their dividend. Could it be reasonably near here in five years? I know discounting the dividend seems like an antiquated method of valuation, but i see no other value to the long-term investor in this instance (other than their enourmously valuable careerbuilder.com). I expect declines in newspaper group profits to be exponential in coming years.

Disclosure: I am long gannet puts

2008 Aug 11 03:00 PM

[Bapcha's St...:]

Yes.

2008 Aug 11 05:29 PM

[CLM:]

A rather narrow view on the topic. Granted, there is no crystal ball, but when was the last time you used the chlorophyl from leaves and your finger to brush your teeth? That's right, toothbrushes and toothpaste took care of that. Or when was the last time you repaired your typewriter? Or bought one?

Some things are made obsolete by the very physical aspects of their design. Electronic paper will become the replacement for the newspaper, its content dictated by the information services available to the type of paper and to the region it functions in. If Gannett wishes to live in this future, it needs to invest and yes, invent - blaze the trails as it did a century ago. That spirit has long since died from the corporation's mentality, unfortunately.

2008 Aug 13 01:07 PM

[Tim H.:]

Castreze your not stupid. Alot of people (the herd/Wall Street) are the one's who are stupid (same one's who gave us the great housing subtrime debacle). Disclosure: I work for Gannett. Am I going to tell you GCI is a great place to work for? Hell no. Cause it's not. But I if I am working in industry. GCI, WPO and maybe a few are best place to be. BTW did not choose work for GCI. They bought company I worked for several years ago. I work in production for GCI and will tell you we do ALOT of commercial printing has nothing do with GCI's newspapers at production plant I work for. I get sense GCI like see the local newspaper disolve so they could do more commercial printing where the $$ is alot more profitable. Looking at last qtr GCI ONLY made $225 million dollars for the qtr. Headlines screamed GCI profit down 36% from last qtr. Actually that headline is WRONG. GCI sold a couple papers in qtr 2 last year and it's profit was down 18%. Still a hit but 50% less than 36%. Interesting since Wall Street usually excludes one time charges or gains from earnings. The narrative however is newspapers are extinct so a 36% loss fits the narrative alot better than 18% loss. I am not putting lipstick on a pig. Newspaper companies face alot of issues but the economy is arguablly in a recession, housing market is hit hardest since great depression, newsprint cost increasing etc... Alot of headwinds against newspapers and many will most likely die or get consolidated. However in this environment GCI still made $225 mil in 2nd qtr and is working to try and drive internet content and AD revenue. Douglas C. lane (runs a $2 Bil fund with sterling track record) in recent Baron's invested in GCI and Buffet still owns 3.5 mil shares from long ago in GCI stock. Lane thinks GCI will make the transition and don't forget the online content. Minnyville newsletter predicts that someone such as Google or Microsoft could buy GCI for online news content someday in future. GCI still has great cash flow and it's not dying anytime soon. This is a very tough environment and GCI is trading at what you could argue is a pps that has placed all the bad news in it;s stock. If GCI survives long-term and proves the haters wrong about death of all newspapers. Entry point here years from now will be a bargain. Plus your getting an almost 9% divvy. If GCI cut that divvy for R&D or to pay off debt. I would not have a problem with that either. GCI in alot better position then all newspaper stocks except for maybe WPO and Scripps who split their company in two.

2008 Aug 14 10:30 AM

[J.P. Hannan:]

Gannett is a great company, but great companies don't always make great stocks. Traditional media companies like this aren't growth engines, but they still turn out nice profits- almost like old school utilities. Most of these companies will leave the public arena once the credit markets thaw and you see the P/E guys scoop them up.

2008 Aug 22 03:54 PM

[jay fredric...:]

Gannett stock is a screaming buy here and was even better a few weeks ago at $15 per share. This company has a nice mix of large papers, small papers, and mid-sized papers in addition to profitable tv stations. The whole segment of publiishers has been washed out in the last six months, but this company will survive and should have a stock price of $35 within three years.

Jay Fredrickson

washingtoncheap.com

2008 Sep 01 02:16 PM