QUALIPORT
Why Buffett Buys Newspapers

By Maynard Paton (TMFMayn)
January 23, 2003

Legendary investor Warren Buffett has a penchant for investing in local newspapers. In 1973, he spent $11m buying shares of Washington Post (NYSE: WPO). Thirty years on, the same holding is now worth over $1b. Buffett's Berkshire Hathaway (NYSE: BRK.A) investment vehicle also bought the Buffalo News in 1977.

So why the interest in local newspaper publishers? As well as being simple and straightforward businesses, they also possess durable competitive advantages. As Buffett said in a 1999 Fortune interview: "The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage. The products or services that have wide, sustainable moats around them are the ones that deliver rewards to investors."

Local newspaper publishers in Britain also have 'wide, sustainable moats'. The industry has been around for about 300 years in the UK and still prospers today, even though a multitude of alternative media has evolved in the meantime. On balance, there are few sectors with greater attractions for long-term shareholders. Here's a rundown of the important investment points.

1. Life is local.

In Britain, local newspapers are more popular than their national counterparts. About 84% of all adults (40m people) read a local paper, versus 67% for a national. In terms of overall local newspaper revenues, 83% comes from adverts: motor, property, recruitment, classifieds, local businesses and so on. For all the talk of 'globalisation', life for most people remains local. Statistics from the Newspaper Society show:

* 75% of the UK workforce work within 10 miles of home, 40% work within two miles;
* Over 70% of people spend their lives within a ten-mile radius of their birthplace;
* Average distance to buy groceries: 4 miles;
* Average distance to buy major electrical item: 7 miles;
* Average new house move: 13.5 miles, and;
* Average distance to find a new car: 13.5 miles.

It's safe to say demand for local news and advertising is likely to continue for some time.

2. High margins imply business franchises.

The following table shows the operating margin of some of Britain's leading local newspaper publishers:

Company             Year to      Operating margin (%)

Trinity Mirror      Dec 2001           22.6         
Gannett
  Newsquest         Dec 1998           26.6
  Newscom           Dec 1999           17.3
Northcliffe         Sep 2002           19.1
Johnston Press      Mar 2002           30.2
Archant             Dec 2001           22.2
SMG                 Dec 2001           18.5

Note:
* Gannett (NYSE: GCI) is the largest newspaper group in the US. It doesn't disclose its UK operating profit, though group margins were 24.7% in 2001. The last reported figures for Newscom and Newsquest, prior to their purchase by Gannett, give some indication of current UK margins;
* Northcliffe is owned by Daily Mail & General Trust (LSE: DMGT), and;
* Archant is privately owned.

The high margins seen throughout the industry certainly imply competition is limited and/or business franchises are in operation. This assumption is borne out by information and statements issued by the Competition Commission.

3. The industry does not (or cannot) support a vast array of titles (and competitors).

The Competition Commission has looked into numerous deals concerning newspapers over the years. When considering last year's purchase of Regional Independent Media by Johnston Press (LSE: JPR), the Commission confirmed: "There are very few instances in the UK where there is more than one paid-for daily in a particular location supplied by different publishers". The Commission also said: "In practice, there are very few areas in the UK which sustain both a paid-for daily and a paid-for weekly newspaper". Going on data supplied to the Commission, 37% of UK postcodes have just one prominent (i.e. having a 10%-plus penetration rate) local newspaper publisher.

Overall then, it would appear the inherent economics of the industry does not (or cannot) support a vast array of titles. Indeed, the Commission regularly highlights the barriers that newcomers face:

* Lack of economies of scale, both in the purchase of newsprint and other inputs and in back-office functions;
* Limitations in access to local high-quality printing presses offering full colour and insertion capabilities;
* An inability to offer advertising packages to meet the needs of advertisers who wish to advertise across local newspaper markets and/or obtain integrated print and Internet exposure, and;
* An inability to obtain finance at rates available to larger newspaper groups, both for investment in modern production systems and to finance losses while credibility is established and circulation built up in the face of competitive responses from incumbents.

(On the last point, the Commission has heard evidence of large publishers willing to sustain losses on titles for over three years to help stave off new rivals.)

Given the above findings, the Commission has admitted: "We take the view that where a local market is already served by a local newspaper, in practice the most credible threat of new entry comes from other major publishers of local newspapers with titles in nearby areas."

However, by far the most telling statistic on additional industry competition is shown below. Over time, the number of local newspapers on the go is decreasing:

                       Number of newspaper titles
                  1981    1989    1998    2000    2001

Local newspapers              
Daily/Sunday       102      96     100     118     117
Weekly           1,409   1,313   1,071   1,022     943
Total            1,527   1,429   1,192   1,161   1,082   

4. Local papers have held their own against alternative media.

Even though newspaper titles have fallen in number (especially during the 1990s), their share of the UK's advertising pie has kept reasonably steady of late:

                        Percentage share of advertising market
                          1973   1979   1989   1999   2001

National newspapers       18.2   15.9   15.5   14.4   14.9
Local newspapers          29.1   27.1   21.7   18.6   21.8
Magazines                 17.1   19.8   17.4   14.3   15.3
Directories                1.9    2.8    5.6    6.2    6.9
Television                23.9   21.5   29.0   32.2   27.2
Radio                      0.2    2.4    2.0    3.8    3.8
Outdoor                    3.5    4.3    3.4    4.8    6.1
Cinema                     0.8    0.8    0.4    0.9    1.3
Internet                   0.0    0.0    0.0    0.3    1.3

Unsurprisingly, newspapers in general have lost out to newer forms of advertising channels (notably television, radio and outdoor hoardings) over the decades. While the last ten years have seen multi-channel television blossom and restrictions lifted on radio licences, local newspaper advertising has still held its own.

In fact, the Competition Commission remarked recently: "We take the view that at present the main competition for the sorts of advertising carried in local newspapers comes from other forms of printed media, such as advertising-only publications (e.g. Auto Trader), niche local publications that may contain some editorial, directories (e.g. Yellow Pages) and direct mail. Television and local radio are less of a direct competitor in this sense, although they undoubtedly compete to some extent for total available advertising spend. The Internet and other electronic media are likely to offer increasing competition in the future, but the rate of growth and ultimate extent of the challenge posed by these remains a matter for conjecture."

So, the local rag remains enduringly popular, as demonstrated by total advertising spend increasing in real terms over the long run:

Year    Total advertising spend      Annual real growth to 2001
         via local newspapers*               (%)
              (£m)

1973         1,836                           1.56
1979         1,782                           2.13
1986         1,986                           2.65
1989         2,522                           0.98
1996         2,297                           4.29
1999         2,555                           5.31
2001         2,834                            -

(* at current prices)

5. Consolidation emphasises the difficulty in marching into a rival's patch.

Consolidation is another favourable aspect of the local newspaper industry. The sector's participants have spent over £6.5b on acquisitions since October 1995 and such has been the growing industry concentration, the largest 20 local press publishers now account for 85% of all local press titles and 96% of total weekly circulation.

Year Company                     Purchaser                  Price

2002 Regional Independent        Johnston Press             £550m
2000 Southnews                   Trinity Mirror             £285m
2000 Newscom                     Gannett                    £444m
2000 Belfast Telegraph           Independent                £300m
1999 Trinity                     Mirror Group             £1,300m
1999 Newsquest                   Gannett                    £904m
1999 Portsmouth & Sunderland     Johnston Press             £266m
1998 United Provincial           Regional Independent       £360m
1997 Midland Independent         Mirror Group               £297m
1996 Westminster Press           Newsquest                  £305m
1996 Emap Newspapers             Johnston Press             £211m
1995 Reed Regional Newspapers    Newsquest                  £205m

While economies of scale, content synergies and competition from other media support the corporate activity, the consolidation emphasises the difficulty in marching into a rival's patch. Rather than try to develop new titles, even Gannett, with its extensive knowledge of local newspapers, still had to buy its way into the UK market.

The author owns shares in Johnston Press.