Early this week came word that newspapers are dying. Most of them, anyway. Only The New York Times and the privately held Star-Ledger of Newark, N.J., posted subscription gains. Circulation, as measured by the Audit Bureau of Circulations (ABC), fell by almost 3% across the board. A downtrend in ad spending is also less than encouraging, as is slim readership among young people.
The top four newspaper publishers -- New York Times (NYSE:NYT), Knight Ridder (NYSE:KRI), Tribune (NYSE:TRB), and Gannett (NYSE:GCI) -- have lost billions in market cap this past year. Forget circulation losses: These stocks have averaged a decline of approximately 18%. The state of the industry is such that Private Capital Management, a large stakeholder in Knight Ridder, has demanded the company be sold piecemeal.
But c'mon. Let's not print newspapers' obituary just yet. When was the last time an entire industry and all its companies just -- poof! -- disappeared? When I hear the herd musing about industries in trouble, I tend to think in terms of what a delicious bottom-feeding opportunity it may afford -- especially when the companies in the allegedly troubled industry are well established, have a solid track record of results, and possess a sustainable competitive advantage in a marketplace with high barriers to entry. So, gentle readers, I propose that there is a real opportunity here. And the best opportunity of the bunch may well be Gannett.
No, the sky isn't falling
The Virginia-based company, which publishes USA Today and about 100 other daily newspapers, is trading at the nadir of its 52-week range, with shares at about $66, more than 20% off their 52-week high of $84.22. That's roughly 13 times earnings, lower than many of its peers -- though higher than Knight Ridder, which is going for less than 10 times earnings -- and lagging the S&P 500. Shares yield about a 2% dividend -- more on that later. Gannett's balance sheet shows a debt-to-capital ratio of 41%. Revenue was up 10% last year versus the year before, and net income, the all-important bottom line, made a $100 million gain. Overall, Gannett, which has an enviable operating margin of 28%, is achieving a respectable 16.3% return on shareholder equity. By any reckoning, this is a healthy, profitable company.
Perhaps it's the recent release of Chicken Little that has everyone ready to proclaim that the sky is falling for newspapers. It isn't. Sure, the newspaper medium is in transition. But the future isn't necessarily all bad for the industry, and it's certainly not all bad for Gannett.
Consider:
1. ABC circulation numbers simply make sure that newspapers really are selling as many copies to subscribers as they say they are. They aren't a way to measure newspapers' performance so much as they are a way to keep the papers honest when they pitch to advertisers. And that traditional measure is evolving because new publications are often being given away to readers. Belo is offering Quick for free in Dallas. The Washington Post is giving away Express in D.C. AM New York is a freebie. Their circulations can be scientifically measured, but it's a different process. This all illustrates the point that circulation figures must be used carefully in assessing the industry.
2. With this in mind, a 2.7% drop in circulation does not translate into a commensurate drop in revenue or profit. In fact, the opposite is likely to be true. Newspapers are going to put the pedal to the metal to boost circulation, and managers are going to find ways to cut costs. I'd be willing to bet that department heads at Gannett papers are dealing with smaller budgets just as they are at Knight Ridder, which, for example, just bought out what seemed like the last employees in the newsroom at the venerable Philadelphia Inquirer. This sort of cost-cutting will have an impact on the bottom line -- especially at Gannett, which saw expenses skyrocket nearly 12% in 2004 -- and I'd venture that's not something that investors have baked into the cake yet.
3. Newspaper companies will not let go of their traditional subscriber bases or desirable younger demographics without a fight, and they aren't taking the technological revolution lying down. Newspapers have always embraced technology: The trend started in the composing room and continued online, where newspaper websites -- which still draw huge audiences -- were among the first cutting-edge offerings. Editors and reporters aren't ignoring the way the nation is communicating, and they're working blogs and podcasts into their offerings in a never-ending quest for relevancy. Advertisers who move their ad dollars online are likely to look to newspapers first.
4. Large publishers are diverse media outlets. New York Times owns About.com. Knight Ridder owns RealCities. Gannett has an interest in 21 TV stations and roughly 750 other publications. For Gannett, this means it's in a position to weather any storm, as well as to create synergies with other properties that promote readership and viewership while driving ad revenues.
But there's a catch.
Be bold, young man
Newspapers are actually doing fine. It is likely that they will adapt and survive. But newspaper companies do have to change. Without a sea change in their basic identity -- in how they see themselves -- newspaper companies very well may die.
This doesn't have anything to do with what makes newspapers successful. Newspaper editors have never needed help figuring that out. But senior executives will have to stop thinking of themselves as fat and happy manufacturers and start thinking of themselves as smart and scrappy biotech upstarts.
And what do newspaper companies do that upstart biotechs don't do? They pay dividends.
Gannett paid out $282 million in dividends last year, compared with $103 million for Knight Ridder, $90 million for New York Times, and $163 million for Tribune. Shame on them. Why do I say that? Because not one of those companies spent a single dollar on research and development! That dividend cash, properly invested in some form in its news product, could possibly be the decision that propels shares from the bottom to the top of their 52-week range. (Plus, it would be a deductible business expense; dividends are not.)
If Gannett wants to overcome circulation woes and ad slumps, and if it wants to find a way to hook young readers and discover new ways to monetize its websites and other media offerings, and if it wants to see its lousy stock price rise out of the dregs, then it needs to undertake a massive newsroom expenditure. Put it on the R&D line. Redirect those dividend payments toward growing the business. My guess? Investors would gladly forgo their quarterly check, and probably even send last year's back, to see Gannett's stock price rise back into the $80s.
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Fool contributor Andy Obermueller used to work for The Star-Ledger and interned at The Philadelphia Inquirer. (Hi, David.) He does not own stock in any of the companies in this article.
