Monday, April 02, 2007

Tribune bets the Tower

The plan to take Tribune Co. private will push aggressively the envelope of how much a newspaper-heavy media company can borrow in a period of constricting audiences and sagging advertising revenues.

There’s nothing wrong with loading a company with lots of debt, if you have a plan to build sales, boost profits and generate enough cash to service an imposing schedule of escalating principal and interest payments. But tardy payments – or, worse, a default – would prove disastrous to the company; its new investor, Sam Zell, and possibly its new employee stock ownership plan.

To ensure Tribune can satisfy its demanding new debt covenants, the company appears to have no alternative but to reduce expenses sharply throughout the operation and take a hard look at selling more assets than the lovable but ill-starred Chicago Cubs. Raising sales would be nice, too. But there would be scant margin for error.

To fund the planned buyout, Tribune Co. will raise its debt load by 167% to a formidable $13.4 billion from the present $5 billion, according to analyst Alexia Quadrani of Bear Stearns.

The new debt, which will be 9.2 times the company’s operating earnings, will make Tribune the second most leveraged of the 20 largest public media companies, as illustrated in the graph below.

Leverage is determined by the ratio of debt to a company’s earnings before interest, taxes, depreciation and amortization (EBITDA). Lenders pay close attention to this ratio in evaluating a company’s likely ability to repay its loans. Most bankers these days draw the line at lending roughly 7.5x earnings for newspaper companies.

Highly leveraged companies, which the Tribune appears set to become, pay greater interest rates on their loans than less-levered companies to offset the risk of potential default, thus increasing operating expenses.

Immediately after learning of Tribune's planned financing, two independent bond-rating agencies plunged the company's issues to further into junk territory, instantly raising its borrowing costs. Higher borrowing costs mean the compnay will need to devote even more of its profits to debt service.

The leverage planned for Tribune is three times greater than the average debt-to-earnings ratio of 3.1x for the 20 largest publicly held media companies. By contrast, the debt of Gannett and McClatchy, respectively the largest and second-largest newspaper publishers, is 2.2x and 2.3x their EBITDA over the prior 12 months.

The only publicly held media company with a greater debt burden than planned for Tribune is Charter Communications, a cable-television operator with a 10x debt-to-earnings ratio. The most highly leveraged company after Tribune would be Cablevision Systems, another cable company, which has borrowed 6.9x its earnings over the last 12 months.

At the other end of the continuum, Google has zero debt and Yahoo has borrowed only 0.4x its earnings. These new-media powerhouses are generating so much cash from their expanding operations that they don’t need to borrow money to finance their growth.

As a newspaperman-turned-cable-guy, I can tell you that the economics of the cable industry are far more predictable than those of the modern newspaper industry.

If Tribune Co. goes through with the massive borrowing that appears to lie in its future, the new mega-millionaires running Tribune Tower in Chicago will be taking a big leap of faith in their ability to increase sales, cut expenses and raise earnings.

Here’s hoping they look carefully before they leap.


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