The publisher of the Yellow Pages is on life support while 'circling the drain'.
If I had to pick one poster child to represent the biggest victim of this post-credit crunch, internet-enabled, smartphone-carrying age, it would probably be Yell Group (LSE: YELL).
Mellow Yellow
Back in its heyday, when the Yellow Pages were the UK's number-one business directory, Yell was a seriously successful company. Its headline product was everywhere, with a copy in practically every British household and business premises.
Indeed, when it was spun out of BT (LSE: BT-A) in 2000 and then floated in 2003, Yell immediately joined the elite, blue-chip FTSE 100 index. At its peak in the spring of 2007, Yell's market value was nearing £5 billion.
Over time, search engines such as Google (launched 1997), Yahoo! and Bing began to steal Yell's lunch. Hence, for almost 15 years, Yell's paid-for directory has been waging war against the all-powerful internet. Alas, this is a battle that Yell is certain to lose.
Yell Ow! Pages
At their peak in February 2007, Yell shares traded close to 650p. However, as the global financial crash and an economic recession took hold, Yell's markets in the UK, US, Spain, Argentina, Chile and Peru suffered as advertisers curbed their spending.
As a result, Yell needed a £660 million bailout from its owners, in the form of a rescue rights issue at 42p per share in November 2009. After this came an agreement with the company's 300 lenders to relax banking covenants on its £4.2 billion debt mountain.
As I write, Yell shares trade down 15% at 5p, valuing the once-mighty directories group at roughly £120 million. This condemns the firm to lurk among the tiddlers of the FTSE SmallCap index.
Yell's Hell
What's more, Yell's fall from grace isn't over yet -- not by a long chalk.
This morning, the group released its results for the final quarter of 2011. Alas, these were anything but a Valentine's card for its owners, as its top-line results continue to weaken.
Yell's group revenue dived more than 15% to below £383 million. Within this total, revenue from digital services more than doubled, growing 112% to exceed £35 million. Alas, digital-directory revenue (Internet Yellow Pages) crumbled almost 16% to under £78 million. Furthermore, in Yell's key printed-directory division, revenues crashed 22% to below £270 million.
As a result of these falling sales, Yell's quarterly EBITDA (earnings before interest, tax, depreciation and amortisation) fell more than 10% to almost £109 million. However, after-tax profits leapt from £1.6 million to £16.6 million, boosted by Yell's ongoing cost-cutting programme.
Free cash flow -- the very lifeblood of any business -- also increased, up £9 million to over £71 million. In addition, by buying back its own debt below par value, Yell managed to reduce its net debt to below £2.57 billion.
An option, not a share
While Yell's results highlighted the strong growth from digital services, total digital revenue remains below 30% of the group's total sales. In other words, while its smaller online businesses gain traction, Yell's main division is dying. This comes despite the introduction of a new, compact-sized Yellow Pages.
Right now, Yell is worth £120 million, but its net debt is more than 21 times this equity. What's more, after subtracting £4.2 billion of intangible assets from its net assets of £1.6 billion, Yell has negative tangible assets of £2.4 billion.
As a result, Yell is on life support and survives only at the mercy of its lending banks. If they decide to pull the plug, then Yell's shareholders will be left with nothing. Hence, I see Yell shares as little more than an option on its survival, rather than any kind of investable asset.
Valuation
At first glance, Yell shares appear to be ultra-cheap. Although they offer no dividend, they trade on a forward price-to-earnings ratio of one. That's right, the company is valued at a single year's earnings, which is practically unheard of.
However, a better way to value Yell is to compare its enterprise value (its market value plus net debt) against its EBITDA. Yell's enterprise value is about £2.69 billion and its 2011/12 EBITDA may be, say, £400 million. Thus, the group trades on an EV/EBITDA ratio approaching seven, which is dizzyingly high.
Just as digital cameras killed paper-based Polaroid, so too will internet search engines destroy paper-based Yell. It will be a terrible shame to oversee the death throes of a once-great British company, but that is the very nature of capitalism's creative destruction. In short, Yell will be Googled to death.
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