Source: Lee Enterprises.
In the 2012 Berkshire Hathaway shareholder letter, Warren Buffett noted that he had purchased 28 daily newspapers at a cost of $344 million. Buffett also talked about his acquisition criteria for newspapers, saying that he believes "papers delivering comprehensive and reliable information to tightly bound communities and having a sensible Internet strategy will remain viable for a long time."
Among Buffett's holdings is Lee Enterprises (LEE +2.46%), a leading publisher of community newspapers in midsize or small markets. Let's examine how Lee Enterprises meets Berkshire Hathaway's investment criteria.
Comprehensive and reliable information
In today's world, where free data is readily available, it is surprising that certain groups of people continue to value comprehensive and reliable information. The Reynolds Journalism Institute found in a 2013 survey that in small U.S. towns and cities where the circulation size of the local newspaper was 15,000 or less, 96% and 75% of readers respectively paid for their newspaper and read all or most of the publication.
Lee Enterprises makes sure that it is best positioned to meet the information needs of its local readers, by employing more journalists than its peers in the markets in which it operates. With a large team of reporters, Lee Enterprises is able to provide the most comprehensive coverage of local news possible.
Lee Enterprises also has had a positive impact on the communities it serves with its news coverage. Its Arizona Daily Star reported on childhood poverty in Tucson, which led to an increase in reading coach volunteers, donations, and public grants.
Another publication, the Billings Gazette, reported on high suicide rates in Montana. This series of articles was cited in Montana Senate discussions and received widespread attention from public officials, mental health organizations, and the general public.
Tightly bound communities
The local monopolies that Lee Enterprises enjoys in the small and midsized markets is reflected in its wide audience reach and the lack of competition.
In Lee Enterprises' 11 largest markets, a minimum 70% of the individual area's population read its newspapers, either in print or digital form. The penetration rates range from 71% in St. Louis to 87% in Billings.
With respect to demographics, Lee Enterprises' penetration rates are as high as 85% for people aged 60 and above, and a decent 74% for those between the ages of 30 and 39. More importantly, 79% of the youngest adults aged 18 to 29 are users of Lee Enterprises' newspapers, with more than half still reading the print edition.
In terms of competition, Lee Enterprises' newspapers are the only local dailies in eight of its top 11 markets.
It is possible to draw parallels with McClatchy (MNI +0.00%), a publisher focused on local newspapers serving small communities. Although McClatchy's overall daily newspaper paid circulation volumes fell by 5.5% in 2013, its Merced Sun-Star in California actually increased its circulation by 14% in the year. It is noteworthy that the Merced Sun-Star has a circulation below 15,000 and is the county's only daily newspaper.
In tightly bound communities, both McClatchy's and Lee Enterprises' newspapers provide local news and information with a breadth and depth of coverage that simply isn't available anywhere else. But Lee Enterprises is the better investment choice if you examine the financial numbers.
From 2007 to 2012, Lee Enterprises suffered a cumulative 33.2% fall in revenue, compared with a 45.6% drop in sales for McClatchy. Similarly, Lee Enterprises' EBITDA declined by 36.6%, while McClatchy saw its EBITDA decrease by 44.2% during the same period. This suggests greater revenue resilience and cost control on the part of Lee Enterprises.
Source: Lee Enterprises.
Sensible Internet strategy
Lee Enterprises has gradually transitioned from a free website and app access model to one involving paid digital subscriptions. Currently, digital and print subscriptions are separate, causing inconvenience for readers. Lee Enterprises plans to introduce full-access subscriptions in 28 markets by next September, providing subscribers with complete digital access (mobile, tablet, desktop) and print home delivery.
It also expanded digital marketing services targeted at small and medium-size businesses by launching an agency to meet strong demand.
Lee Enterprises' digital initiatives have delivered encouraging results thus far. Its Web and mobile sites received 25.6 million unique visitors as of year-end 2013, which is about six times its newspaper readership of about 4 million. About 28% of the adult population in Lee Enterprises' markets have accessed its digital publications using a seven-day average survey period between January and June 2013.
Overall, revenues from digital advertising and marketing and digital subscriptions have respectively increased 7.9% and 12.7% in 2013 and the first quarter of 2014. The particular bright spot was mobile advertising, which grew revenue by 78.3% in 2013. Lee Enterprises plans to incorporate technologies such as geotargeting to enhance its capabilities in this area. That means that subscribers to Lee Enterprises' digital editions will receive targeted advertisements, depending on where they are accessing the content.
Foolish final thoughts
Berkshire Hathaway's investment in Lee Enterprises makes good sense because its newspapers meet Buffett's investment criteria of comprehensive and reliable information, tightly bound communities, and sensible Internet strategy. Notwithstanding the inevitable decline in circulation and advertising revenue of the newspaper industry, trusted local newspapers that make a decent effort to go digital will survive and thrive in difficult times.
