Fool's Eye View

[ May 23, 2000 ]

Unconvinced by Southnews

By Maynard Paton (TMFMayn)

Carburton Street, London -- I first encountered Southnews (LSE: SNW) when on the trail for potential Qualiport candidates back in January. Appearing to fit the basic criteria for the Foolish real money portfolio, I reviewed the company in this feature. The article is an ideal way of quickly getting up to speed with the small local newspaper publisher.

Although Southnews had a great financial record, exhibiting chunky margins, great cash flow and a high return on shareholders' equity, I wasn't particularly happy over the long-term outlook for future at the business.

Taken from the Qualiport's Southnews review:

"Here's the problem. With revenue inextricably linked to the ups and downs on the economy, and a mature newspaper readership market, there's little option but to grow by acquisition... But the threat that is really speeding up consolidation in the industry is the Internet. The thought of classified advertisers turning their back on newspapers, and moving to the new electronic medium, is a significant danger. With this in mind, have local newspapers seen their best days?"

With full year results published today at Southnews, has anything altered to put my fears at rest?

Firstly, no sooner had I written about the need for acquisitions to further the sales growth at Southnews, than the company goes and makes a substantial corporate purchase. February witnessed Southnews acquire Denitz Investments, the holding group of the "Adscene" stable of local newspapers, for £52m.

The rationale of the acquisition was to consolidate Southnews' position in the lucrative South East of England marketplace, though it wasn't a bargain purchase. In its final year before being swallowed by Southnews, Adscene generated £3.4m of operating profits from £25.3m of sales. A rough price to earnings (P/E) ratio of 20 and a price to sales ratio of 2 are about par for the course in the newspaper industry.

Southnews has recouped a substantial amount of the Adscene outlay through the subsequent disposal of a handful of the acquired newspapers to fellow industry-consolidator Johnston Press (LSE: JPR). It sweetened the original deal in Southnews' favour, with Johnston purchasing £6.9m worth of annual sales and around £0.4m of annual profit for a pricey £16.5m.

Pedestrian sales growth

The requirement for Southnews to keep on the acquisition trail is abundantly clear in the annual results.

                    52 weeks to   52 weeks to
                     01/04/2000    01/04/1999


Turnover

  -continuing (£k)       73,652        72,722
  -acquired (£k)          2,224             -
                         75,876        72,722


Operating Profit

  -continuing (£k)       15,000        15,895
  -acquired (£k)            346             -
                         15,346        15,895


Exceptional items (£k)     (680)          (98)
Interest (£k)            (2,391)       (3,197)
Pre-tax profits (£k)     12,275        12,101


Earnings per share (p)    42.66         42.16


Dividend per share        13.5p         12.2p

Although Southnews declares that like-for-like advertising revenues edged 3% upwards throughout the year, that performance only equates to an overall 1% increase in underlying revenues. Worryingly, the company fails to directly comment upon the clear deterioration at the operating profit level. Only a smaller interest bill saves Southnews from having to declare a drop in underlying earnings per share.

Another weakening in the financial performance is the additional requirements for working capital. Seemingly a cash generator supreme in this area when reviewed for the Qualiport, Southnews reported a working capital cash outflow of £600,000 this year. Maybe the Adscene acquisition played a part, but then again, Southnews has acquired other publishers without any noticeable detriment. Compared to recent years, the £600,000 adverse working capital movement is a significant depletion.

Looking ahead, Southnews is confident that "current results are comfortably in line with expectations", noting the recent strength of advertising levels. Even with the Adscene acquisition still to be fully digested, Southnews is "seeking to acquire valued-adding operations".

In summary

A fairly solid, if unspectacular, set of results. Nothing today has changed my thoughts from the original Qualiport feature. If anything, the organic growth seen in recent years has slowed and so the need for acquisitions is heightened. Coupled with operating margin and working capital question marks, my aversion to Southnews has increased since the January feature. And I still remain unconvinced over the future of local newspaper publishers in relation to the Internet.

But since Southnews shares have increased 10% to 782p since my original uncertain Qualiport profile, I wouldn't be surprised to see Southnews continuing to defy my expectations.

Post your feedback to the Southnews discussion board, please

Related Links

• Southnews discussion board | website
• What is the Qualiport?
• Qualiport reviews Southnews