April 20, 2012
CC: J Stewart Bryan III, James F. Woodward, John A. Schauss, George L. Mahoney, Stephen Y. Dickinson, Robert E. MacPherson, O. Reid Ashe, Jr., Scott D. Anthony, Diana F. Cantor, Dennis J. FitzSimons, Thompson L. Rankin, Rodney A. Smolia, Carl S. Thigpen, Coleman Wortham III
Mr. Marshall N. Morton CEO
333 E. Franklin Street
Richmond, VA 23219
RE: Q1 2012 Conference Call
Kinnaras Capital Management LLC ("Kinnaras") is adviser to a number of entities and affiliates which own shares in Media General ("MEG" or the "Company"). I am writing to you to address my urgent concerns regarding the direction of the Company. I intended to voice those concerns on the Q1 2012 conference call but despite following directions to join the queue, it appears that I was not allowed to participate in this call. This is a poor response to an engaged shareholder. I have likely purchased more shares of MEG than you ever have, yet as an owner of the Company I was not allowed to ask pertinent questions regarding MEG's operational and financing strategies simply because I have accurately pointed out the various failures you have helmed while at Media General.
You and your team have enjoyed millions in compensation at a very heavy cost to all stakeholders of MEG for many many years. Despite the hefty paychecks you command, MEG shares have declined from roughly $50 when you became CEO to now under $4. This decline can be tied to a number of secular changes in the newspaper and television broadcast industry but given the severely negative and persistent divergence of MEG's relative performance to peers in terms of capital structure, operating margins, valuation, and absolute stock performance, it is highly evident that your entire tenure as CEO of MEG has been an abject failure. The following list highlights a number of value destroying activities the Company has taken over the past nine years:
- Acquisition of NTN Buzztime: MEG invested several million in this gaming company which eventually was written down.
- Acquisition of DealTaker.com: Despite protests from investors at the time, you pushed on only to recognize a $10MM write down in Q1 2012, excess costs tied to consultants hired to fix the business, and now determining whether to shutter the business permanently in order to triage the operational drag.
- Acquired 4 NBC stations for $600MM: You casually dismissed the protests of large shareholder Gabelli & Company to overpay for four NBC stations in 2006, which ultimately reduced MEG's financial flexibility. While deploying $600MM in shareholders capital to invest in four NBC stations, or $150MM per station, you were simultaneously selling some of MEG's own stations for a less than $30MM each!
- Missed an obvious refinancing window from Q4 2010 - Q2 2011: Equity investors as well as creditors suggested that MEG capitalize on a vibrant refinancing market from Q4 2010 - Q2 2011 yet you and your team had no sense of urgency to refinance the Company's $363MM Term Loan at an attractive rate. Your negligence will now cost investors north of $50MM or roughly $2.20 in pre-tax EPS when accounting for fees and the difference between refinancing in early 2011. In addition, a conservative present value estimate for the ongoing difference between what could easily have been secured in H1 2011 compared to what will be realized now will also total in the tens of millions.
I have conducted extensive research into MEG and I cannot identify one positive strategic contribution you have overseen since becoming CEO. Nearly every significant decision you have made, including those in opposition to large shareholders, has led to further and more intensive crippling of the Company's intrinsic value. If not for the insular and seemingly sycophantic Board along with the controlling B class of shares, I suspect you and your team would have been voted out long ago. A Board with integrity would have recognized and acted on these missteps long ago. Arguably, a leader with some sense of decency would have recognized his failings and voluntarily stepped aside.
Instead, every failure you have notched has set the stage for an even greater fiasco. The list of strategic failures above clearly illustrates how each misstep has led to an even greater problem for the Company down the road. While the numerous advisors MEG now employs are helping to steer the Company in the right direction (at no doubt at a substantial cost to shareholders that have offered you similar guidance for free), a number of comments on the conference call made me question whether you and your team can deliver even a modicum of value from current distressed prices.
Your discussion of the "improvement" in Tampa covered exporting the actions taken in Florida to other MEG newspaper divisions. I am concerned that your team may be seriously overlooking the contribution the Florida Republican Primaries had on the performance of Tampa and may also not have a firm grasp on the Tampa economy. In fact, going back to the Q4 2010 conference call in January 2011, then COO Reid Ashe stated:
"We think the hard-hit Florida economy has at last found its bottom. After long and disheartening slides, auto and home sales both turned upward late in 2010...We think Florida will start to heal this year, with the recovery accelerating next year."
As with 2010, 2012 will feature heavy political ad dollars, and like the retired COO's comments coming off a strong 2010 political year, I believe your analysis of Tampa's 2012 improvement places unwarranted weight on your actions and not enough on the influence of political spending and overall interest in the election leading to more consumption of media. As a result, I am deeply concerned that you will squander the Company's cash to “improve” other newspaper operations which will ultimately lead to nothing but reduced cash and a continued operational drag for the Company's newspaper division.
With the prospect of an attractive and imminent newspaper segment sale being considered, what is the cost-benefit of spending capital to improve MEG's newspaper business? Is there any analysis you have conducted to determine how much incremental cash spent to potentially improve other parts of the newspaper segment will yield in terms of a higher potential valuation? Have you considered that your actions undertaken to "improve" other parts of MEG's newspaper operations may not fit with those of a potential acquirer and thus be a wasted use of Company resources? Given the newspaper segment's underperformance, the current set of purchasers are very likely armed with their own views on how to structure the business in a manner whereby your actions would be nothing more than a waste of shareholders' capital.
You also discussed shareholder value during the conference call and I have to question whether you honestly are working to improve or realize value for MEG's owners. You have indicated in numerous conference calls that management would be open to selling assets if they would realize adequate value. Yet despite a robust M&A market for traditional media assets in 2011 and 2012, it was only until the Company sought to amend and extend its Term Loan that the prospect of selling the newspaper division arose. I suspect that this was due solely to your lenders “suggesting” the Company explore a sale of the newspaper division. In short, I find it hard to believe that the Company was never approached by third parties willing to offer fair value for MEG's assets in the past and more likely that management dismissed prior, acceptable offers due to the classic agency conflict.
The financing blunder you have overseen has led to $10MM in financing fees recognized through Q1, likely another $8-10MM in bond fees in Q2, and additional fees related to advisory work provided by AlixPartners, Capstone Advisory, Peter J. Solomon, and J.P. Morgan. Given the hefty number of advisors currently employed by the Company and the granular and intimate knowledge they now have of MEG, it would be sensible to hire them to explore a sale of the Company's broadcast assets as well, with a goal of retiring all corporate and pension debt. The broadcast transaction market is benefiting from healthy valuations and tax incentives which would allow sellers to achieve attractive sale multiples. Disposing of both broadcast and newspaper segments could yield shareholders 100%-200% gains from current prices, well above what you will be likely to achieve with your recently disclosed strategy.
The post newspaper strategy of pursuing duopoly opportunities is laughable. While you were busy pursuing a failed convergence strategy, deploying capital in a wasteful manner that reduced MEG’s dividend, increased its leverage, and reduced its margins relative to peers, intelligent operators such as Sinclair, Nextstar, and LIN TV were securing strong duopoly markets. As a result, MEG maintains less than a handful of duopoly markets while these three peers command an aggregate of nearly ten times MEG’s duopoly markets. They are better capitalized, generate stronger operating performance, and have already secured many of the best duopoly opportunities. This opportunity – like the refinancing window – has blown past you and unfortunately MEG stakeholders must bear the cost.
Unlike the missed duopoly and refinancing opportunities, one present and highly attractive strategy would be to capitalize on the valuation of the broadcast assets. A move to sell the broadcast unit would also demonstrate that you at long last realize how fleeting windows of opportunity can be and the cost to shareholders when you don't seize them. Your complacency in seeking out a refinancing for MEG's $363MM Term Loan despite encouragement by creditors and equity investors will cost investors over $50MM or 50+% of the Company's current market capitalization for this year alone and a present value cost totaling tens of millions. This major gaffe should have reinforced the lesson of seizing opportunities when they arise but unfortunately your commentary on the Q1 2012 conference call demonstrated that this concept still eludes you.
During the conference call one of your largest creditors asked how the Company ultimately delevers, particularly given that MEG may be free cash flow negative in 2013. Your response was astounding given what the Company has had to recently endure. You stated if the Company gets into a cash flow crunch, there are other assets you could sell but at the current stage you'd simply rely on covenant protection. Is it necessary to remind you that you have a poor track record with predicting and guiding MEG's operating performance? You had to secure a covenant waiver just 21-24 months from completing your prior refinancing.
More importantly, who can predict where valuations for the Company's key assets will be in 2013? We know that current valuations for broadcast assets are highly attractive and intelligent investors such as Providence Equity Partners are sellers. In contrast, the lessons of the refinancing experience are lost on you and you seem willing to gamble with shareholder value to simply collect a few more paychecks. Broadcast television assets are trading at very healthy levels now, there is no guarantee that they will be at these levels next year.
In closing, I once again urge you to take an honorable and shareholder friendly course of action and sell the broadcast assets in addition to the newspaper assets. You have secured significant wealth that seems largely undeserved given the performance of MEG stock and return to shareholders since your tenure as CEO. The same creditor that asked about MEG’s deleveraging strategy also questioned why corporate overhead never goes down. Indeed, MEG investors must pay many multiples of the corporate overhead associated with you and your management team through inept strategy, lost cash flow, and valuation. Rather than take any accountability for your actions, every one of your strategic failings leads to firm wide firings and a deteriorating equity valuation.
The negative value associated with you and your team is the difference between MEG trading for roughly $3-4 and $10. Equity investors realize this as do your creditors, illustrated by the number of advisors your creditors have forced you to maintain (at cost to MEG shareholders). Would this be the case if MEG’s creditors had any confidence in your ability to execute? You have the ability to close this gap by selling the broadcast assets and create value for shareholders. I encourage you to do so.
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