R.H. Donnelley (RHD), the second-largest independent yellow-pages publisher, has seen its stock fall to $2.00 in 2008, a 94% drop over the last eight months. The company has been hit by weakened demand for advertising and a heavy $9.7B debt load leftover from the company's history of growth-through-acquisition. Despite this, Barron's sees Donnelley as an attractive stock, albeit a risky one.
First the bad news: Donnelley has seen its market value drop from $4.8B a year ago to under $150M, and about 24M shares have been sold short out of nearly 70M shares outstanding. Nor is Donnelley alone. Investors that once counted on yellow-pages publishers as stable, high-margin companies have seen weakened ad demand and an increase in internet searches erode both market share and profitability for these one-time cash cows. Rival Idearc (IAR) has seen shares drop 92% this year to $1.30.
Not all the news is bad, however. Donnelley is still profitable, forestalling investor fears that it is heading to bankruptcy court. Its debt load will not begin to mature until 2010, giving the company a two-year runway to get its act together. Donnelley is also generating $500M in annual free cash flow, uncommon for a company with a market value of less than $150M. CEO David Swanson says yellow pages are much healthier than newspapers, with a wide base of 600,000 advertisers, and that the current downturn reflects the slumping economy and not a move away from print yellow pages.
There is some talk among investors that the best next step for Donnelley is some combination of a stock buyback to reassure shareholders and a bond repurchase to help reduce its financial leverage. Management says it is considering the latter. In the long run, Donnelley's success is contingent on reversing advertising declines, maintaining cash flow, and convincing investors that print yellow pages are not doomed. In the short term, however, the stock may bounce back simply because people keep using the yellow pages and with at least two more years before debt loads sink the company, this could make Donnelley a $2 bet worth taking.