Valassis Communications' Management Presents at Credit Suisse 15th Annual Global Services Conference (Transcript)

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Valassis Communications (NYSE:VCI) Credit Suisse 15th Annual Global Services Conference March 11, 2013 1:30 PM ET


Robert L. Recchia - Chief Financial Officer, Principal Accounting Officer, Executive Vice President, Treasurer, Director and Member of Executive Committee

Unknown Analyst

We're going to get started with Valassis Communications. We have Robert Recchia, EVP and CFO; Mary Broaddus, Director of IR; and Brian Husselbee, VP of Financial Planning. Thanks.

Robert L. Recchia

Good morning. We're going to talk a little bit today about our corporate vision. We'll get into the numbers shortly. But this is new for us. We've spent a little time since Rob Mason came on as CEO about 12 months ago and worked on a new vision, which is really to create the future of intelligent media delivery to drive your greatest success, your being the customer, the employees, the investment community.

What we do is we're leveraging our targeting insights. We have a tremendous amount of information on -- in data. But also, in terms of our targeting capabilities, we know who lives where, we know where the demographic profiles are, and we leverage this information in terms of how we sell our products. What we're really trying to do, what we do best is activate consumers, okay? So if you look at the path of purchase, plan, shop, share and buy, that's where we come in. Our products are designed to bring people in the stores, okay? They move product off the shelf.

And then how are we doing that? We are doing it through a combination of your mailbox, which is our Shared Mail package; our in-store business, which is grocery, in store, primarily; our Digital business, which is a couple of different offerings; and newspaper, which is the traditional Valassis Free-standing Insert and circular business.

If we look at segment results for the past year, you can see our Shared Mail business, which is our biggest and most important segment, was up 1.1% in revenue. The segment profit, up about 5%. So a little bit short of target, we're trying to get to 3% revenue growth. We didn't get it done primarily in the area of new business development. We did not have a significant large customer come on in 2012, and that is one of the keys to growing the business. As you know, the print media world is not growing. It you're going to grow it, you need to do it by taking share, and we didn't really get that done last year. So not a bad year overall, but not what we wanted in terms of performance.

Our Neighborhood Targeted business, which is a newspaper-delivered program, and we would call it a solo program, so individual advertisers. That business was actually down almost 13%. Profitability actually came in at a negative $1 million on a segment profit basis, and there's a couple of things going on there. One, this is a business where you are competing with other printing companies and with other placement agencies. I would say this is about as aggressive as it can be in terms of cutting margins, so not a great business. And there's 2 reasons for it. It shrank. One is, we had a sampling business that we got out of last year, and that caused part of the shrinkage. And the other is that it's just a very competitive marketplace today. And the way the margins had gone, there are certain areas where we're just not going to compete.

There is a third factor, I forgot, which was we've started a process where the market has moved from a, what I'll call, a full revenue recognition model to a fee-based model, okay? We have resisted that for a long time. We've actually had to get in line with that because that's the way business is being conducted today. So as you look at the Neighborhood Targeted sector -- segment, we've already given guidance for next year that $204 million of the revenue of the $326 million goes away as a result of shifting to a fee base. And we've made that shift effective starting in actually in the fourth quarter, but it's fully in effect as of the first quarter of the year. That will show you an improved gross profit margin but much, much less on the revenue side. And obviously, the income is going to be the same either way.

If we look at the Free-standing Insert business, this is one where it's been very, very positive for us. It started to come back. And those of you that follow us know that in 2011, there was a pullback by the consumer packaged goods group of companies as they were struggling to deal with their own problems. It really came on the heels of consumers starting to use even more coupons. So what would -- what you would think would be a positive, which is increased usage of coupons, actually worked against us a little bit because the brands weren't able to afford it. They pulled back on their spending about 10% which I've never seen in my 30 years with the company. I've never seen a shift like that. That has started to come back in the second half of 2012 and continues into the first quarter of 2013. So we're seeing a positive trajectory on the Free-standing Insert business. You can see that revenue was down about 10%. All of that and then some was the result of one single piece of business, which we call custom co-ops, that we lost to our competitor. The good news with that business is the margin is very, very low. So it didn't really impact us from a profitability standpoint. You can see that even with 10% less revenue, we were able to grow 55% on the segment profit line. So the trajectory is good today on the Free-standing Insert business.

International, Digital Media & Services has got a whole bunch of stuff in it, the most noteworthy, which is our coupon clearing business. And as I mentioned to you earlier, the pullback by the consumer packaged goods companies in terms of their spend, coupled with them trying to manage redemption, because they were getting too much redemption, has caused lower receipts in terms of coupons for NCH. So the bulk of that reduction in revenue is NCH or coupon clearing business. The secondary piece is we also got out of the direct -- the Solo Direct Mail business, and I think that was around $7 million or $8 million of revenue loss by getting out of that business. But other than that, the coupon clearing business is still a very strong, great cash flow business for us, but it is totally subject to what's happening with the consumer and the consumer packaged goods companies.

If we look at the other items of interest that are in IDMS, one would be our Digital portfolio. And Digital for us consists of, we call, digital offers, which are coupons that you can get, either print it home or download into your card and then display. During 2012, we bought a small company called Circle Street and another ad placement business during the year, and those 2 businesses make up the bulk of what we do in our Digital business.

We have brought on a number of, I will call, outside digital experts over the last 18 months or so. And the business is starting to get quite a bit of traction. So we still got a way to go from a profitability standpoint because what I'm learning with the Digital business, as you're building an infrastructure for a fairly substantial business because if you want to compete, you have to have a lot of capabilities that the big guys have. And I don't mean Google. I mean, the bigger ad placement groups, ad networks that we compete with. And when you build that, the infrastructure costs are fairly expensive. But once you start to scale up on the revenue side of things, the business operates just like any other business. So there's a heavy fixed cost investment upfront. The good news for us is, you'll see this when we get to the next slide, is we have a lot of capabilities in that area that our competitors do not. All right. So overall, revenues were down about 3% to $2.16 billion, and segment profit was down slightly from $238 million down to $230 million.

This is just a slide that shows verticals. There's no one vertical that makes that more -- that we're reliant upon in terms of the business. And then if you look at the overall revenue trends, Shared Mail is about 63% of revenue. That's even going to go up potentially a little bit more because the Neighborhood Targeted business is going to come down with it going to a fee base. But the good news is, is that IDMS segment will start to grow at a fairly fast pace, I believe, with the Digital business in 2013.

Looking at top line financials. Diluted earnings per share in 2012 came in at about 22% above 2011. Adjusted diluted, about 8.5% above. Net earnings were up about 5%. You can see our EBITDA was actually down about 3.5% year-on-year. What we're doing right now is we're buying a lot of shares back. We actually repurchased about 5.1 million shares during the year. In fact, we bought back about 25% of our stock over the last couple of years. And that's really been popping the EPS number for us.

If we look at 2013, our guidance, which we gave in December, $3.50 per share on an earnings per share basis. Adjusted EBITDA at $315 million is the guidance. Capital expenditures will be about $25 million. We usually come in somewhere in that range, so we would anticipate that as well.

If we look at planned uses of capital, we still -- our #1 priority will continue to be share repurchase, but we've announced the dividend effective. The first dividend was paid in January for shareholders of record December 31. And you would expect quarterly dividends going on going forward. We pay about 30 -- we paid a $0.31 dividend in Q1. That was about a 4.6% yield at the time. I think it's slightly less than that because the stock has moved up since we announced that.

We like our capital structure. We're really not looking to do anything here. We've got fairly low-cost debt. It has termed out. The bonds are termed out, I think, until 2021. And we've got a 5-year call on the bonds, so that about the only thing we can do is wait until that 5-year period comes in. It's too expensive to take them out today.

Our term loan is at LIBOR plus 175. So that is very, very attractive even in today's marketplace. So I wouldn't look for us to do much here until we get to the 5-year mark or at least close to the 5-year mark, where we can take those bonds out. I don't know where interest rates will be at that time, but as we look at it today, it doesn't make sense to mess around with the capital structure at all. Net debt of just under $500 million, with EBITDA of $315 million, so our coverage ratios are very, very strong.

So if we take a look at 2013 and -- what are the drivers that we're looking at for this business? What's going to make us successful? The #1 key is Shared Mail. We're doing the bulk of, probably, I think it was 63% of our revenue, and it's even more of that of our EBITDA out of the Shared Mail business. For those of you not familiar with Shared Mail, if you've been around for a while, it's the old ADVO company that we bought about 6 years ago. The key in Shared Mail is the focus on new business to increase our share. If you're in print media today, you don't have any natural growth. Market -- CMOS are not sitting around in groups talking about how they're going to increase their print stand. Actually, it's quite the opposite. Now they will also tell you that they have yet to find anything that works the way print works to activate the consumer. So while on the one hand, you'd like to think about moving into digital delivery and do some other things, the consumer reacts differently to the printed message that they get at home than they do anything else, and that's good for us, okay? So the key is finding new business opportunities to increase share. How do you do that? You've got a declining newspaper market. Now the newspaper industry, even though it's declining, is still very good competitors. And the hometown newspaper is very powerful with the consumer and, therefore, it's very powerful still today with advertisers, all right? What we do is we sell a targeting and saturation program versus kind of a scattered around that the newspaper has. So if you think about a marketplace, and I'll use Detroit, that's the closest hometown to Valassis. If you buy the Detroit News and Free Press, you go wherever it goes, and that goes to the northern part of the state, the Western part of the state. If you have a concentration of stores that are in a certain part of the city, you may not want that. What we would do in our Shared Mail business is we would target those stores, we would look at the radius around the store, which is the shopping area. In other words, people don't travel more than 3 miles to come to your store, and we would saturate that area. So every household will get the ad. So our selling proposition is targeted saturation versus a less-than-targeted approach of the newspaper. The difference is the newspaper has been doing it with most of these customers for 40 years, so unseeding them is difficult in a retail environment because they're scared to death that if they change, the store traffic is going to go down, okay? But that is one of the keys for us is to continue to compete with the newspapers and look for new verticals to go after with Shared Mail.

And then ongoing innovation, incremental revenue opportunities. We launched something called VDP, Valassis Data Postcard. We used to have something called the detached address label that was discontinued about the year that we bought ADVO. And it was because the Post Office was going to charge -- start to charge separately for the address label, but it had a professional rate for postage with it. We've relaunched the address label. We're still advertising on it today. So it's still a saturation vehicle, but we can actually target house-by-house. So if you know what message you want to reach each home, if you have a database and you're a car dealer and you know these are the people in my trading area that own a car, we can actually send them something for an oil change or tire rotation versus somebody that doesn't own one of your cars that you can send a new car offer to. So we're actually targeting down to the household with this product. It is the least expensive way that you could target into a household, but you have to saturate. Meaning I have to hit every home in that particular area. That's been growing very nicely for us. We'll probably grow another 50% plus this year. And still a relatively small base, but it's got the capability, full blown, probably to be an $80 million piece of business for us a few years down the road. So we're pretty excited about that. Margins are consistent, if not higher than average Shared Mail margin. It's not like the incremental margin, but it -- actually, they are higher than the average Shared Mail margin.

In the Digital arena, we're trying, in 2013, we need to double our revenue. So there's a lot of effort being put into growing our business. We bought an ad network last year and it was admittedly a little bit broken, okay? It had been for sale for quite awhile. They had lost some of the sales people. They had lost their leadership. We bought it very, very inexpensively, but we essentially bought a business that had stalled. So it's taken us about 6 months to get things back on their feet, and we've hired probably a dozen sales people. And really, 2013 is the year to get that business headed in the right direction. But it is -- from a technology standpoint, I think we will soon, when we got -- one of the release comes out, I think the end of this month, that will put us on par with everybody else. We think with the next release that we have, which should be midsummer, will actually put us ahead of the game a little bit in terms of our capabilities.

What are we doing here? What's going to make this successful? We've got 400 plus sales people and 15,000 client relationships. So if you look at any digital companies out -- that's out there today, they tend to be driven by technologists because that's how they start. They don't really have the sales contacts or the marketing expertise. We have the technologists in house today that are building what we have. Most of the technology people that we have are Silicon Valley-based or based all over the world actually in terms of what they're -- who we've been able to attract. But we've got 400 sales people calling a lot of existing customers today that are not being called on by the big digital agencies. So we think there's a niche for us one step down from the very big customer that are being serviced by everybody down to that next layer of customer that doesn't have an agency that's representing them that maybe doesn't have the degree of sophistication that some of the big, big customers have. And that's what we're really trying to do there. How we're doing it is trying to blend our print with digital. The digital pure play is fine. But if you look at how things work with consumers, if you start to blend your print programs and your digital programs with complementary messages, we think it's pretty powerful. It does resonate. This is a selling proposition that we're out in the marketplace with today that is being very well received by all of our customers.

FSI. A few ways to grow FSI: Market share and page volume growth. It's industry growth and page volume. The industry shrunk a little bit in, I think, in the fourth quarter, but we had 2 less dates as an industry. We're down about 10% in dates, I think the industry was down 3.6%. So that's actually pretty good because our average book size went up almost 10%.

As we look forward, we think the industry is healthy. I don't know if we give out a guidance on industry growth, but I think we should see a pretty good year this year in terms of dollars coming back into the FSI by the consumer packaged goods company, so we should see some page volume. I think our market share is up slightly. So we should see growth in this segment. Pretty modest, but nevertheless, growth in the FSI segment.

In-store, we continue to build our network, adding Family Dollar and Rite Aid recently, into the network. And the key here, once again, is we need to get the consumer packaged goods companies spending money again. When they pulled back 10% in FSI, they pulled back 30% in in-store, and that hurt us quite a bit. We're seeing the dollars bleed back a little bit, but one of the keys for us is to get a network that's big enough, where they have to spend with us. And news has Safeway and Kroger locked up today, those are the 2 biggest. And so we've tended to be one level down from them. We have SUPERVALU. We have a number of other retailers that are layered down from the big 3. But that's one of our keys is to continue to build the network and that should bring in more CPG dollars in terms of more tactics. And by tactics, I mean, how many ads to you have? Or how many coupons do you have in the store itself?

Okay. Intelligent media enables clients to address the changing consumer meeting engagement and shopping behaviors, okay? That's really what we're trying to do. It gets back to what can we do to activate a consumer. Our value proposition is primarily, it's going to be Shared Mail, and we're trying to put the digital and the print together. Whether it's Digital with Shared Mail or Digital and FSI, we're taking all of our capabilities to try and offer an integrated solution to our customers.

A diverse client base, 15,000 across the country, pretty much anybody with a significant ad budget we're calling on today. And consumer engagement continues to be very, very good. The American consumer still wants deals. And if you look at it, every time we see gas prices going toward $4, we see more increase in coupon uses. People have got to stretch their food budget to pay for the increased gasoline or the other things that they have to do. So all of those trends continue to be very, very good in terms of our future.

Our cash flow yield, return to shareholders, we think is still a very good story. We'll continue to do share repurchases. We've targeted between 60% and 65% of free cash, and the free cash is about $175 million, is the number that we would expect this year. So you're looking at still a substantial amount of money being put into share buyback because our dividend comes out to about $48 million a year. It's a low-cost capital structure. It's a very stable and manageable capital structure, and then the experienced results, or management team. We have a lot of new members. The senior executive team, over the last couple of years, have all been with the company for 10 plus years. So it's a pretty cohesive group, and we're well -- we're seeing some things and we're trying to change the organization's direction with Digital and move a little bit faster in those areas. The foundation of managing FSI, managing Shared Mail is still there, and the focus is still there to make sure that we're successful.

So with that, we got a couple of minutes for questions, and I think we have or breakout after this.

Robert L. Recchia

Okay. So if there no questions, I think we are all set. Thank you.

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