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| When asked about the newspaper business, a
particularly astute commentator once said, "The economics of a dominant newspaper
are excellent, among the very best in the world." Quite an endorsement,
especially coming from the lips of the undisputed master of "world-class"
investments, Warren Buffet.
Up until the late 1980s, newspaper operations fulfilled all of Buffet's criteria for what constituted a successful "franchise." They were companies that provided a product that was: (1) Both needed and desired, (2) had no close substitute, and (3) was largely unregulated. In the early 1990s the effects of recession on advertisers acted like a thief, plucking the crown jewel of the newspaper industry from its setting, the precious stone of pricing power. The dynamics of the business underwent not just a cyclical change but a secular change as well, as advertising dollars flowed into other media like cable, direct mail, and the more economical but obnoxious "inserts." However, the purported deathblow to the industry, heralded in the popular press at the time, was to come in the form of "The Internet!" |
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Well, as Tom & David Gardner noted in their book, The Motley Fool Investment Guide, it's not very pleasing to the senses to curl up with a computer to read the news in the morning. Presently, no form of "pure" Internet news service has even come close to profitability, and no sucking sound has been heard as all those advertising dollars rush south to the Net either. Lo-and-behold, newspapers are still with us, but things are definitely different. Paper Cuts The advent of high-speed personal data communications has upended traditional notions of what "local" means. The hometown newspaper and the local bank have historically been the two most important institutions for a small town. Any person who wanted to get a message out to the community used "the paper" as his vehicle for delivery. Buffet viewed it as kind of a royalty fee that every business had to pay, because eventually they all had to advertise. Today the power of this close-to-home feel has been usurped by advances in technology that allow ordinary citizens to compile their own "super-national" papers online. These might consist of the business section of The New York Times, the political page of the Washington Post, and the Life section of USA Today. Regardless of the combination, the end result for traditional newspapers is the same -- more media to compete for less advertising dollars The emergence of new media like Direct Broadcast Satellite highlights parallel issues in the broadcasting arena. Some providers of satellite television offer local broadcasts from different areas of the country to customers that don't actually live in those regions, if the recipients can prove that they have difficulty receiving their own local broadcast signals (some illegally get both). Local TV stations have balked at this intrusion on their turf, but the result has been the same: a continuing pressure on local advertising revenues. To put it as succinctly as possible, the ad money always follows the eyeballs. Newspapers: What's the Story? Of the roughly 1700 papers that exist in the U.S., 1600 of them operate without direct competition from another paper. This makes for quite a captive audience and the lucrative economics that Buffet likes so much. However, total circulation has held steady between 55 and 60 million copies for the last ten years, while the online numbers continue to grow. A brief look at the shifting demographics of the media world is telling. America Online has roughly 8 million users, which constitute 13% of the entire newspaper industry. Forester Research estimates that by the year 2001 just over 10% of the ads that are presently placed in newspapers will migrate to the online medium. As a percentage of total advertising revenues, employment advertising and other classified ads have been on the rise. In 1970 employment advertising comprised 16% of the total ad base; in 1996 that percentage went up to 40%, with retail revenues filling in the rest. This serves to highlight some of the new opportunities and challenges that newspapers face with regard to the revenue/expense equation. Stop the Presses Newspaper operations are characterized by their low capital requirements, and even when capital expenditures are made they are invariably smoothed over by lower fixed costs. Newsprint prices are the primary input on the cost side of the equation, and newspapers engage in elaborate management of paper inventories in order to secure the best prices. At present, many publishers' inventories have been building in anticipation of higher paper prices in the second half of 1997. Negotiating the undulating paper pricing landscape has led to many changes in the newspaper business in an attempt to smooth out earnings going forward. Successful companies that weathered the storm in the early 1990s did so by consolidating back office functions and reducing the number of editions that they published. The cost-cutting mentality, however, has yet to extend into the realm of outsourcing. Analysts look at the outsourcing of classified ad departments as a key cost-cutting measure that has not been seriously entertained by newspaper companies. Key revenue generators in the present environment include the development of new editorial niches in order to grow the number of readers. The entrenched attitude among publishers concerning the stagnant growth in circulation is slowly yielding to the idea that newspapers need to grow to survive. Not So Grim In the past couple of years, a number of newspaper companies have attempted to slash prices in order to boost demand and have met with some success: --The Dallas Morning News from 1990-91 competed directly with The Times Herald by cutting its daily price to $0.25 and offering a $0.50 Sunday edition price. The result was the downfall of the Herald and cash flow for the Morning News that presently exceeds that of both companies before the price cut. --In London Rupert Murdoch forfeited a short-term profit of $75-$100 million by cutting the circulation price of The Times, which resulted in well over a doubling of circulation. --Closer to home, the CEO of the TIMES MIRROR CO., Mark Willes, cut the cover price of The Los Angeles Times from $0.50 to $0.25. Since that period, street sales of the paper have soared and circulation is up 3 1/2%. Many observers of the industry have concluded that as long as the major metropolitan newspapers continue to maintain their 45% to 55% household penetration on Sundays, advertisers will still use newspapers as their dominant means of distributing their advertising. Even if this were not the case, it is important to remember that newspaper operations today are very rarely solely confined to the print medium. Many newspapers own significant TV and radio broadcasting assets, shoring up some of the erosion in advertising revenues by developing into full-blown media concerns. The bottom line is that newspapers collect information 24 hours a day, and that commodity can be leveraged in many different ways. Ultimately, the success or failure of these companies will be determined by the ability of management to effectively allocate the tremendous amounts of capital that these companies generate. Growth can only add to value if return on invested capital is above the amount invested. -Alex Schay (MF Nexus 6) (c) Copyright 1997, The Motley Fool. All rights reserved. This material is for personal use only. Republication and redissemination, including posting to news groups, is expressly prohibited without the prior written consent of The Motley Fool. |
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