Tuesday, February 02, 2010

Gannett profit slide points up industry peril

Gannett Inc., long regarded as one of the most parsimonious newspaper publishers, may be running out of expenses to cut.

But this is no reason for the company’s oft-furloughed employees to cheer. Quite the opposite.

Gannett’s inability to reduce costs fast enough in recent years to sustain its traditionally high operating margins illustrates the grave challenge facing the newspaper industry:

Unless ad sales rapidly and vigorously rebound, the unavoidably high fixed costs associated with printing and delivering newspapers eventually could eat publishing companies alive.

To be sure, Gannett and most other publishers are far from going out of business. Almost all of them still continue to generate profits that put most other companies to shame.

But the rapidly declining profitability of Gannett and many of its peers suggests that they may be running out of ways to stay ahead of the enormous fixed costs that threaten the long-term future of newspapers.

Fixed costs are the costs you have to pay to be in business regardless of how much business you have. Apart from the variable cost of newsprint, it essentially costs a publisher as much to be equipped to print and deliver 100,000 newspapers as it does to print 75,000. Most fixed costs don’t go away when revenues fall by 30%, as they have at Gannett since 2006.

While publishers can trim so-called elastic costs by eliminating the op-ed page or shrinking the news staff, they can’t avoid the inelastic expenses required to operate complex manufacturing plants that are used only a few hours a day to make a highly perishable product that must be delivered on a demanding schedule by fleets of human-piloted vehicles.

If sales cannot cover fixed costs and a business runs out of variable costs to cut, then the business at some point won’t be able to make a profit. Absent profits, a company eventually goes out of business.

Precisely because Gannett has been so vigilant over the years about controlling such variable costs as headcount, pay and news hole, the company appears to be coming up against the reality of unavoidably high fixed costs faster than less-thrifty publishers who had relatively more fat to cut out of their organizations when ad sales collapsed. Here are the details:

While Gannett’s revenues topped out at $8 billion in 2006, the company’s sales were $5.6 billion in 2009, a plunge of 30.1% in just three years.

As much as sales slid, the drop in profitability was worse. The operating profits of the nation’s largest newspaper publisher plunged 51.6% to $1.1 billion in 2009 from nearly $2.3 billion in 2006. The trend, which accelerated in the last two years, is illustrated in the chart below.

Operating profits also are known as EBITDA, which stands for earnings before interest, taxes, depreciation and amortization. EBITDA reflects the amount of money a company makes on its actual operations, without respect to the numerous adjustments that can either increase or decrease the net earnings which are the focus of most business stories.

Gannett reaped $31 in EBITDA for every $100 sales in 2005 but its operating profits were only $20 for every $100 in revenues in 2009. Most companies would be tickled to have EBITDA of 20%, but that number looks fairly anemic when a business is accustomed to getting 31%.

Companies count on operating profits for a variety of purposes, like paying taxes, servicing debt, funding dividends or launching new digital products. If EBITDA falls way short of expectations for way too long, the economics of a business are unhinged.

Even though most news reports yesterday about Gannett’s 2009 earnings highlighted the improvement in its net income in the latest quarter, the steep EBITDA decline in the last two years suggests that the company, like most other publishers, is running out of ways to trim expenses as ad sales decline.

Given the inability of the company to sustain its margins as sales fell, it seems fair to hypothesize that profits will continue to erode if ad sales don’t recover or the company can’t develop significant alternative revenue sources.

“We are a leaner, stronger company as we move into 2010,” said Gannett chief executive Craig A. Dubow in a conference call with securities analysts to discuss the companys financial health.

Leaner, yes. But stronger? That remains to be seen.


Anonymous Anonymous said...

What is even worse with GCI's portfolio is that the the company was counting on the digital transformation to coin new revenues to replace the lost ads by cashing in on social networking and profiling GCI's Internet customers. But the 4th Q report shows how misplaced those expectations were: the digital division reported a decline in revenues, although it is still quite profitable.
I also think that what is happening with GCI is a general rebellion amongst readers towards the cuts. Readers don't give a fig about the personnel lost, but they do notice the decline in the newspaper and the TV stations. My local Gannett TV station (D.C.) now runs ads instead of local nightly news. For newspapers, we will see the public reaction in circulation declines to be published later this year.
This becomes a death spiral: newspaper cuts brings declining circulation, which brings less ad revenue, which in turn brings more newspaper cuts, etc.

6:50 AM  
Anonymous Ydobon said...

Anonymous at 6:50 am wrote, "I also think that what is happening with GCI is a general rebellion amongst readers towards the cuts. Readers...notice the decline in the newspaper and the TV stations. ...
This becomes a death spiral: newspaper cuts brings declining circulation, which brings less ad revenue, which in turn brings more newspaper cuts, etc.

Well said. You're not the first to notice this.

From September 2008, A Gloomy Look at the Newspaper Industry by Instapundit.

"Declining ad revenue and readership necessitates cost-cutting. Cost-cutting inevitably affects content. Diminished content, whether real or perceived, alienates readers, who become more likely to cancel their subscriptions and seek out alternative news sources. This accelerates the migration of readers to online sources and the decline in ad revenue, which will necessitate even more cost-cutting. We think the cycle will feed on itself."

On a side note, the article that Instapundit linked is gone. Taking articles offline is short-sighted policy by news-services. Aggregators can't feed traffic if the link is dead.

10:23 AM  
Blogger Esteve said...

No one seems to talk about the enormous short-selling in newspaper stox. Short sellers made millions riding the shares of Lee, McClatchy & Gannett into oblivion. Today, according to Yahoo Finance, nearly a fifth of the GCI float -- more than 34 million shares -- are short. So who are those guys? And for heaven sake, why doesn't the press even sit up and notice it, much less act to make known these bloodsuckers?

9:03 PM  
Anonymous Anonymous said...

Esteve: why are short-sellers bloodsuckers? Unlike stock-buyers, short-sellers don't get dividends and are betting their money the stock will go down. If you have been reading this blog for a while, looks like there is much justification for that position. It's a market, and you have to have buyers and sellers to make it work. Demonizing one side and not the other is silly and ignorant.

5:17 AM  
Anonymous Ron Vodenichar said...

Just like a former smoker or recovering acoholic you manage to see negatives even in the positive. Ours and many others are doing just fine.Our 2009 profit was up 4.5% over 2008.Since you failed in the print business you are painting all other efforts as being as lousy as yours. I see a future for you in the garbage business;I hear it is picking up.

5:26 AM  
Anonymous Anonymous said...

Pleaaaseeee...20% ebidta! That's greed, the worst od captialism.

Granted they were up as high as 30%, but that's a gross number, considering the quality of their product. I'd like to see 8% ebidta and a superior product.

8:37 PM  

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