Publishing Industry Outlook (Feb. 2011)

The publishing industry had long been grappling with sinking advertising revenue, which was exacerbated by the global economic meltdown. This reflected a longer-term secular decline as more readers get news free online, thereby making the print-advertising model increasingly irrelevant.

Circulation Falling Prey to the Internet

Newspapers have fared far worse than magazines, as web-based news options have proliferated in recent years. The two-decade-long erosion in newspaper circulation reinforced the decline in advertising revenue. Circulation has also fallen prey to budget cuts with newspaper companies reducing the number of print pages and newsroom staff to combat the downturn.

However, the recent data available from the Audit Bureau of Circulations (ABC) indicates that the rate of decline in circulation is easing. Newspaper circulation tumbled 5% for the six months ended September 30, 2010, reflecting an improvement over a decline of 8.7% registered for the six months ended March 31, 2010.

Despite the fall in newspaper circulation, some companies are reporting higher revenue from circulation due to the increase in subscription and newsstand prices. While the increase in prices for print editions is generating more circulation revenue, it is also resulting in subscriber losses due to the shift in preference for free online content.

Newspaper Advertising Trend Improves

With the gradual improvement in the economic conditions, positive trends are emerging in both print and digital advertising driven by an improving outlook for advertiser spending. Consequently, the rate of decline in advertising revenue is decelerating.

According to data released by the Newspaper Association of America, total advertising revenue for U.S. newspapers slipped 5.4% in third-quarter 2010 (July to September) to $6.1 billion, after falling 5.6% in the previous quarter, reflecting the 17th consecutive quarter of decline. The trend reveals a gradual improvement in the advertising environment.

Print advertising declined 7.1%, after declining 7.6%, 11.4%, 25.6% and 29%, respectively, in the previous four quarters.

Print advertising revenue at The New York Times Company (NYT) dropped 7.2% in fourth-quarter 2010. At Gannett Co. Inc. (GCI), publishing advertising revenue dropped 4.7% in fourth-quarter 2010.

Print advertising revenue tumbled 9.1% at The McClatchy Company (MNI) in fourth-quarter 2010, but increased 3% in third-quarter 2010 at The Washington Post Company (WPO). Publishing advertising revenue dropped approximately 10.3% at Journal Communications, Inc. (JRN) in third-quarter 2010. Newspaper advertising revenue, excluding online advertising at The E. W. Scripps Company (SSP) fell 7.1%.

Online Advertising Gaining Traction

The Internet-based advertising model, which also fell prey to the economic downturn, is now re-gaining traction. According to the data released by the Newspaper Association of America, online advertising revenue climbed 10.7% in third-quarter 2010, following an increase of 13.9% in the previous quarter.

Advertisers are migrating to the Internet driven by increasing online readership and lower advertising prices online than print.

Revenue from Washington Post’s online publishing activities, mainly washingtonpost.com and Slate, rose 21% in third-quarter 2010. Display online advertising revenue jumped 26%, and online classified advertising revenue on washingtonpost.com rose 6%.

Digital advertising revenue at McClatchy rose 5.1%, helped by retail and classified advertising, including auto and employment as major categories but was offset by national advertising. Online newspaper advertising revenue at E. W. Scripps slipped 4.2% to $7 million in third-quarter 2010, as most of the online advertising is tied to print classified advertising, which remained weak during the quarter. Pure play online advertising revenue climbed 7% to $4.2 million. Digital advertising revenue at The New York Times Company grew 11.1%.

Efforts to Mitigate Losses

In an effort to offset declining revenue and shrinking market share, publishers are scrambling to slash costs. This has compelled many newspaper companies to undertake cost-cutting measures, such as trimming of headcount, pay cuts, furloughs, suspension of dividends and matching contribution to employee 401(k) funds, voluntary retirement program and closure of printing facilities. Asset sales, even at trough valuations, have proven to be a less viable option in the midst of tight credit markets.

To curb shrinking advertising revenue and improve market shares battered by the recent economic downturn, the publishing companies are now even considering charging readers for online content. Newspaper companies have been remodeling and restructuring themselves to better align with the growing need of marketers, targeting younger people, affluent households and other demographic groups with multiple web and print publications.

The publishing companies are adapting to the changing facet of the multi-platform media universe, which currently includes mobile, social media networks and reader application products in its fold.

Publishers now do not concern themselves about the total number of copies distributed, but focus more on whether copies reach the target audience. This strategy helps newspaper companies attract advertisers and, in turn, generate more revenue for each copy sold.

Pay As You Access

The newspaper companies are transforming their business models to better position themselves in a multi-platform media universe. Although the U.S. economy is witnessing signs of recovery with a sluggish improvement in the advertising environment, we believe 2011 will not mark the resurrection of the publishing industry. However, it is expected to fare better than 2010.

With steadying newspaper budgets, we could see fewer layoffs, more focus on web and local content, reduction in print pages dedicated to business or sports content, increase in subscription and concentration on profitable circulation.

News Corporation (NWSA) has taken a leap towards an online subscription-based model for general news content. News International, a subsidiary of News Corporation, began charging readers for online content for The Times of London and Sunday Times of London effective June 2010.

Rupert Murdoch, the Chief Executive Officer of News Corporation, has long been pushing for the online subscription model for all general news websites. But newspaper companies have been reluctant to tow the line for fear of losing readership and, in turn, advertisers.

Business newspapers, such as The Financial Times and The Wall Street Journal (owned by News Corporation) have long been following an online pay model. But levying access charges on readers for online access to general news content is a first for any news publication.

Another media giant, The New York Times Company has already taken a leap towards the paid model. During third-quarter 2010, the company’s New England Media Group property, the Worcester Telegram & Gazette, launched a subscription-based model for its website.

The New York Times Company also plans to introduce a ‘pay and read’ model for NYTimes.com with plans to launch a paid subscription website, BostonGlobe.com in 2011. The company will adopt the Financial Times’ metered system, where readers after browsing a certain number of free articles, are being asked to subscribe.

The NYTimes.com subscription based model is slated for launch in the first quarter of 2011. It was also specified that subscribers to the New York Times’ print version will be able to access online content or articles without shelling out additional charges.

However, we believe people will be reluctant to shell out if the content is available free of cost elsewhere. To combat this, Rupert Murdoch has been devising ways to prevent Google Inc. (GOOG) from accessing News Corporation’s articles or content through its Internet search engine.

OPPORTUNITIES

Despite the tough times faced by the publishing industry, there are a number of defensive names in the group that can hold their ground. Companies are radically changing their business models to fall in line with industry trends.

Gannett (GCI) is diversifying its business by adding new revenue streams to make it less susceptible to economic conditions. The company is also streamlining its cost structure, strengthening its balance sheet, and rebalancing its portfolio. The company is witnessing higher broadcasting and digital revenue. Consequently, the company posted better-than expected fourth-quarter 2010 results.

Moreover, with advertisers gradually returning to the market, Gannett hinted that the rate of fall in advertising revenue is decelerating. However, the company’s high dependence on advertising revenue, a derivative of the health of the economy, remains a potential threat. The company holds a Zacks #2 Rank, which translates into a short-term Buy rating.

WEAKNESSES

The newspaper industry has long been grappling with plummeting advertising revenue due to economic headwinds. Although murmurs about advertisers returning to the market are gaining ground as the economy recovers, but the positive effects have yet to be realized. Circulation revenue has fallen prey to the Internet as web-based news options have proliferated in recent years. The publishing companies are now also introducing the ‘pay and read’ model, as a new revenue generating stream. However, we believe that people will be reluctant to pay extra for content, if it is available free of cost elsewhere.

The New York Times Company’s fourth-quarter 2010 earnings beat the Zacks Consensus Estimate and rose 4.5% from the prior-year quarter on the heels of effective cost management. However, the company continues to register drops in the top line. Total revenue dipped 2.9% in the quarter, following a decline of 2.7% in the previous quarter.

Print advertising fell 7.2% and circulation revenue declined 3.6% in the quarter.

Management hinted that circulation revenue in first-quarter 2011 is expected to decline in line with the second half of 2010. Digital business remains strong, climbing 11% during the quarter. We remain apprehensive of potential risks that the company faces due to its high dependence on advertising revenues. To mitigate this, the company is adding new revenue streams by diversifying its business, thereby reducing its susceptibility to economic conditions.

The New York Times Company holds a Zacks #3 Rank, which translates into a short-term Hold rating.

We currently have a neutral outlook on publishing stocks, which is supported by the Zacks #116 Rank.

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