QUALIPORT
Emap: Doubling in Five Years?

By Maynard Paton (TMFMayn)
October 1, 2001

Rochester, Kent – The Qualiport's spending spree continues apace. Further to Thursday's announcement, Friday morning saw the portfolio (notionally) purchase the following:

* 147 shares of Emap (LSE: EMA) at 529p. Including stamp duty of £3.89 and dealing costs of £15.00, the transaction came to £796.52.

* 321 shares of Johnston Press (LSE: JPR) at 243p. Including stamp duty of £3.90 and dealing costs of £15.00, the transaction came to £798.90.

Today's Qualiport will review the investment merits of Emap. As a refresher on the media group, you may wish to read this article, which in turn links to previous company write-ups.

Trading statement

Emap issued a trading statement last week. The update provided a taster for the group's interim results in November. In short, Emap's first-half will show:

* Total underlying revenues up 3%;

* Underlying operating profit in line with the prior year;

* Market share gained across all key markets, and;

* Half-year profit before tax in line with expectations.

To me at least, Emap is fast regaining its fundamental attractions. The disastrous foray into the US, via the purchase of Petersen, was finally laid to rest this summer after the troublesome business was sold. Meanwhile, expenditure on numerous Internet ventures has now been substantially reduced (from £60m last year to £20m this year). Indeed, I'm sure net digital investment for the next financial year will be almost zero.

Driving force

The driving force behind these changes appears to be Emap Chief Executive Robin Miller. On his re-appointment to the job in May, he wrote the following paragraph in the company's latest annual report:

"We have underperformed in too many areas. The reasons are many and varied. Poor investment decisions (the US and Digital); poor execution (Emap Advertising); and where we have lost market share, poor management... As I say, we cannot change history, but some things we can change and will change. And we will do it free of many of the burdens of the past two years as we eliminate them one by one, wary of the siren voices luring us into high risk ventures with no clear customer demand..."

It's worth remembering that Miller was Emap's Chief Executive between 1985 and 1998. And very successful he was too, overseeing the company improve operating profits from £8m to £143m during that time.

It's also notable that last week's trading statement described Emap's magazine circulation revenues as remaining "solid". There was a reference to "market share gains across key markets", too. In short, the group's products and services still seem popular with the public.

So, Emap's only "problem" is fundamentally a temporary one – a slowing advertising market. Indeed, Emap has stated that it's facing "the most difficult advertising marketplace for at least a decade". However, advertising markets always recover. But of course, the timing and extent of the recoveries are unknowable.

Valuation

The key to valuing Emap is to look at history. How did the company fare during the last downturn?

Year  Sales  Operating   Operating    Earnings   Dividend 
               Profit     Margin     per share  per share
       (£m)     (£m)        (%)        (p)        (p)

1990   264.3    37.1       14.0       16.5        5.9 
1991   269.3    30.4       11.3       12.8        6.3
1992   269.4    32.8       12.2       12.5        6.8
1993   318.3    40.7       12.8       15.5        7.5
1994   362.4    43.5       12.0       15.9        8.2
1995   547.1    67.6       12.4       21.3        9.4

Emap's profits peaked during 1990 before being hit the by the last recession. From 1990 peak to 1991/2 trough, the 25% fall in earnings and 20% decline in operating margins give some idea of the effect the current advertising slowdown could have.

(That said, the above table is somewhat distorted by small acquisitions and the then make-up of the business. Back in the early nineties, Emap had extensive local newspaper interests (all subsequently sold) and little in the way of radio operations (now some 10-15% of the business)).

Excluding the US Petersen business and digital investment, Emap recorded sales of £879m, operating profits of £206m and earnings per share (EPS) of 51.0p during its latest financial year. With the imminent slowdown in mind, adjusting that performance by the following (quite pessimistic) assumptions...

* Sales drop by 5% to £835m;

* Operating margins drop by a fifth to 18.75%;

* The proceeds from the Petersen sale reduce the group's interest bill to £21m, and;

* A tax charge of 30%;

...gives a prospective EPS figure of 37.2p for the current financial year. (For the record, brokers are expecting EPS of around 40p). My estimate represents a 27% plunge in EPS from last year's adjusted 51.0p figure, a decline similar to that seen in 1990/1.

At the current price of 540p, Emap shares stand on a forward price to earnings (P/E) ratio of 14.5. Indeed, with Emap's negligible capital expenditure and working capital requirements, earnings are essentially all cash. The profit forecast therefore equates to a prospective free cash flow yield of 6.9%. I'd say this valuation is very attractive, given a recovery in Emap's fortunes ought to follow the relatively bleak near-term assumptions.

Double your money

It's also worth considering Emap's profits a few years down the line. Let's assume it takes five years for Emap to fully recover from the current slowdown. In other words, EPS in 2006 equals the 51.0p figure generated in the year to May 2001.

During the recovery from the last recession (between 1993 and 1995), Emap shares averaged a P/E of 23. On the belief that a stronger, recovering Emap could justify a P/E of 20 in 2006, we get a prospective share price of 1020p.

Assuming that Emap's prospective dividend of 20p is maintained over the next five years as well, shareholders will receive a total payout of 100p. Thus, with a possible five-year gain of 580p per share on the cards, anybody buying Emap shares today could realistically expect to double their money by 2006. Such a performance would equate to an average annual compound return of 14.9%.

More: Emap discussion board  | Thumbs Up For Emap

The author owns shares in Johnston Press.