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Looks a great record. In fact, referring back to the Qualiport criteria, the group appears to clear both the "strong and ideally increasing margins" and the "proven past growth record" hurdles.
Southnews are a publisher of free and paid-for local newspapers. Hardly a rocket science business. In a nutshell, employees at Southnews write the news, local businesses pay to place their adverts in the papers, the newspapers get printed and distributed and the public read them to find out what's going on in the world.
How does Southnews fare against the other financial criteria?
Return on equity calculations can be distorted by historic "cheap" equity. In Southnews' case this could be old newspaper titles that have significant value but accounted for next to nothing in the books. The incremental return is based on recent performance. Southnews has added around £31.7m in equity, nearly all related to two acquisitions, to produce an extra £6.1m in profits in the last few years. Thus the added equity has generated a creditable return of 19.3%.
There's few problems with working capital at Southnews. The company carries no stocks, and overall, is cash generative in terms of its debtors and creditors.
So given that there is minimal working capital and fixed asset investment, what happens with the excess cash? It goes towards acquisitions. Specifically, in Southnews' case, paying off existing debt used to make two large purchases.
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.
Briefly, here's the financial record that initially attracted me to Southnews.
1995 1996 1997 1998 1999
Turnover (£m) 23.60 28.79 37.00 43.57 72.72
Operating 3.37 4.57 6.67 8.32 15.90
profit (£m)
Earnings per 13.87 18.02 24.92 32.52 42.16
share (p)
Operating 14.3 15.9 18.0 19.1 21.9
Margin (%)
Sales 40.0 22.0 28.5 17.8 66.9
growth (%)
Earnings 81.8 29.9 38.3 30.5 29.6
But is Southnews a company which I understand, and has predictable earnings?
The Southnews Business
Newspapers are an investment favourite of Warren Buffett. The attraction to Buffett with the Washington Post (NYSE: WPO) and the Buffalo News was straightforward. Both papers have a "franchise" in terms of an advertising gateway. History has shown it's difficult to establish new and successful newspapers from scratch. How many new national newspapers have there been in the UK? Was the last one the Sunday Business? Then was it the Independent, in the 1980s?
Readers may change their favourite newspaper, but it's rare to hear about new entrants in this market. Local newspapers are the same -- a stable number of titles that have existed for years. And if there are any new titles, they come from the existing players. Thus, if you wish to advertise in a newspaper, you have a few, expensive, choices. All this, rather long-windedly, means Southnews clear the "a strong competitive advantage" hurdle.
Buffett does like the accounting side of newspapers too. As we'll see, newspaper publishers do have a few enticing financial characteristics.
But does Southnews have predictable earnings? Put simply, revenue is dependent on advertising levels, which in turn is dependent on the economy. When the economy is booming, businesses advertise for recruitment and the public advertises to replace their cars and houses.
Overall, profits at Southnews are as predictable as the economy in Greater London and the Home Counties, the areas the group's publications cover. But there are other forces at work that could affect future profits. More on those later.
Return on Equity
Using the average shareholders' equity employed throughout the year, Southnews reports far from mediocre return on equity figures.
1996 1997 1998 1999
Profit after 2.29 4.23 5.11 8.40
tax (£m)
Shareholders' 9.22 12.34 34.90 40.94
Equity (£m)
Return on 39.2 21.7 22.1
average equity (%)
Incremental Return
On Equity (96-99) (%) 19.3
The above average return on equity figures can be explained by Southnews' reliance on advertising. When demand for advertising space rises, Southnews needs no extra costly resources to cope, as the table below suggests.
1997 1998 1999
Sales (£m) 37.00 42.45 72.43
Staff numbers 491 541 824
Average fixed
assets (£m) 2.75 2.45 2.62
Sales / staff (£) 75,352 78,471 87,899
Sales /Average
fixed assets (x) 13.5 17.3 27.7
Cash, Debt and Acquisitions are King
1996 1997 1998 1999
Change in debtors (£000) (357) (310) 680 198
Change in creditors (£000) 298 349 1,612 1,366
Total change in
working capital (£000) (59) 39 2,292 1,564
Part of the problem with local newspapers is that they are, by and large, a mature market. It's difficult to increase readership. Southnews do launch the odd new title to lure new readers or increase the "colour capacity" to attract additional advertisers. But for significant additional profits, the strategy is growth by acquisition.
Southnews' record of growth, shown at the top of this feature, isn't entirely what it seems. Two large acquisitions, the Croydon Advertiser in 1996 and United Southern Publications in 1998 have significantly boosted revenues. Stripping out these purchases, organic sales growth has been an acceptable 11%, 15% and 9% in the last three full financial years, fuelled no doubt by the surging "consumer confidence".
Debt-wise, Southnews appears just about comfortable. Operating profits for the year to March 1999 covered interest payments 4.8 times. In fact, interest cover has continued to improve, with the ratio now standing at 7.1 in the latest half year statement, the excess cash continuing to reduce debt. From £30m of loans outstanding in 1998, this has been reduced to £24m in eighteen months.
Identifiable growth prospects
There are many larger players in the industry. Daily Mail and General Trust (LSE: DMGT) has recently purchased Bristol United Press, and the US-based Gannett (NYSE: GCI), Johnston Press (LSE: JPR) and Trinity Mirror (LSE: TNI) have all stated their desire for News Communication and Media (LSE: NCM). Will there be any suitable purchases for Southnews when many others have deeper pockets? Will Southnews itself be bought?
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? Or will they survive the Internet, as they have with radio and television, and keep their inherent advantages? Newspapers will undoubtedly lose a notch of profitability in the future, but I remain unconvinced they'll lose all of their current "franchise" characteristics.
I've no doubt, even after this quick review, that Southnews clears the business and financial criteria for the Qualiport. But that's the past. My doubt stems from the way forward. The thought of Southnews possibly undergoing a defensive growth by acquisition strategy to fend off the Internet doesn't appeal for a long term investment. At 705p, maybe the forward price to earnings (P/E) ratio of only 17 reflects my unease. I feel at this initial stage, a definite "maybe" and one to reflect upon further. But I'm sure there are better "pure" growth opportunities elsewhere.
Your comments on Southnews, whether newspapers have seen their best days, or any long term investment alternatives can be posted on the Qualiport message board.
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