JP Morgan Issues ‘Negative’ View of Newspapers

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By: Jennifer Saba

Under the new nameplate of JP Morgan, former Bear Stearns analyst Alexia Quadrani launched coverage of the publishing industry with a “negative view” of both the short and long-term outlook for most traditional advertising media.

She writes that two factors are affecting the industry at once: an economic downturn, and the migration of advertising dollars from tradition media — i.e. newspapers — to the Internet. But even if the economy rebounded, the newspaper print advertising would remain in negative territory.

The near-term forecast for the industry doesn’t look promising, and Quadrani does not expect a significant economic bounce to occur anytime soon — which would help soften the declines. The classified revenue plunge is one of the more worrisome aspects, since it represents about one-third of revenue and is the most profitable of advertising categories. Though the comparisons should be easing, at least in theory, Quadrani and her team estimate the classified revenue will continue to suffer double-digit decreases throughout 2008.

The lucky breaks the industry worked last year to maintain margins — cost-cutting and relatively lower newsprint prices — will partly evaporate this year. Newsprint prices are on the rise, which gives publishers even less room to maneuver.

JP Morgan covers five newspaper companies, and Quadrani and her team break out the pros and cons going for each of them.

* Gannett: rated neutral
Gannett’s nice mix of properties — smaller papers buffeted from the challenges faced by metros, a national daily which is growing circulation and commanding premium pricing, and smart digital acquisitions like PointRoll — make Gannett an attractive company. It consistently delivers earnings and its operating margin is the highest of its peers, JP Morgan notes.

Quadrani believes Gannett would be interested in buying Tribune’s stake in CareerBuilder (should Tribune offer it up). Assuming this deal happens, Gannett would have “significantly more online ad exposure, which would boost overall revenue.”

Gannett is currently stamped neutral because of the overall poor performance of the industry at large and the volatility of the company’s United Kingdom based Newsquest and USA Today’s exposure to national advertising.

* GateHouse Media: rated neutral
GateHouse’s acquisitive strategy on concentrating on hyper-local properties helps the company against the forces hitting big city dailies. Another key investor-friendly strategy GateHouse employs is the payout of high dividends — still the highest of its peers at an 18% yield but less than the ratio it fist employed of 80% to 90%.

What put this company at risk, Quadrani asserts, is its high debt levels, which hamstrings GateHouse from making more acquisitions.

* New York Times Co.: rated neutral
The strong brand of the company’s flagship makes it candy for investors who would pay a premium to own the company should the family ever decide to sell. Its online strategy is very strong too. The New York Times Co. has one of the highest online revenue to total revenue ratios of any newspaper company at 10%. JP Morgan forecasts that in 2008 online revenue will increase 15% to 20% and contribute about 12% of total revenue.

The company’s free cash flow is expected to improve since it is no longer locked up in capital expenditure projects like its new headquarters building or plant consolidation efforts.

Three risks expose the company: It depends on the volatile category of national advertising, which accounts for 30% of total revenue. Boston and New York are “mature” economies and competitive markets. Quadrani raised concerns that The Wall Street Journal’s desire to take on The New York Times could put more pressure on the company. Additionally, NYT Co. has a less flexible cost structure — with about 17% of total expenses going towards editorial operations (versus an industry average of 9%).

* E.W. Scripps: rated overweight
The fact that Scripps is spinning out its more profitable cable and Internet properties into a separate company will realize more value. “The split,” Quadrani wrote, “will allow each team to focus on improving the performance of the respective companies, in addition to having the flexibility to cater to different investor profiles.”

* McClatchy: rated underweight
While McClatchy is clearly suffering from a swooning stock price and its high debt load due to the acquisition of Knight Ridder, Quadrani thinks management will buy back shares, increase the dividend, or possibility take the company private.

McClatchy’s exposure to California and Florida, which represents 35% of its revenue, is hurting the company now, but long term, JP Morgan likes these markets. “If and when there is some stabilization in these markets, we should see an above-average benefit to McClatchy’s revenue since we believe these markets have strong economic prospects longer term,” Quadrani wrote.

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