QUALIPORT
The Qualiport's Weakest Link

By Maynard Paton (TMFMayn)
November 30, 2004

Emap (LSE: EMA) is the Qualiport's longest held company -- and perhaps its weakest link. Although the portfolio has made five separate purchases since April 1998, Emap does not possess the greatest of competitive moats.

Consumer magazines

Emap's 2004 annual results revealed this divisional breakdown:

Division	Operating profit (£m)	Operating margin (%)
Consumer magazines (UK)	63	18
Consumer magazines (France)	57	18
Consumer magazines (International)	1	2
Consumer magazines (Total)	121	17
Business-to-business	54	27
Radio	24	25
Television	7	33
Digital	6	33

Generating 57% of operating profits, clearly progress at Emap's consumer magazines is central to the group's overall performance.

Emap is the UK's number two consumer magazine publisher, whose wide variety of titles, including heat, FHM, Closer, Empire, Max Power, Angling Times and Today's Golfer, give it a 18% market share. In France, Emap is the number three magazine player, holding a 13% market share.

The domestic market for consumer magazines has grown rapidly over the past ten years. According to the Periodical Publishers Association, since 1994:

* UK consumers spend £796m more each year on magazines, an increase of 45% in real terms;
* UK advertising revenues have increased from £499m to £784m in 2003 - a 57% increase;
* The number of UK consumer magazines has increased by 53% to 3,229;
* Total expenditure (consumer and advertiser) on UK consumer magazines has expanded to over £2.76bn in 2003;
* UK consumer magazines have grown to take approximately 6.7 per cent of total advertising expenditure;
* The UK magazine market has been driven by a relentless churn of new titles.

Emap has capitalised on the market expansion. Over the past ten years, annual sales of the company's UK consumer magazines have improved from £167m to £347m (average 8% per annum) while associated operating profits have increased from £25m to £63m (average 10% per annum).

(Sadly, detailed information on most of Emap's main UK magazine rivals (e.g. IPC, BBC Publishing, Bauer, National Magazines and Haymarket) are hard to come by. They're either small parts of large conglomerates, or are in private hands.)

Advantage Emap?

But past growth is one thing, trying to pinpoint how Emap will protect future magazine profits through a sustainable competitive advantage is another.

Certainly past operating margins produced by Emap's consumer magazines suggest they command some sort of operational strengths. Between 1990 and 2004, margins at Emap's UK magazine unit have ranged between 15% and 25%, with 2003/4 witnessing a worthwhile 18%. If nothing else, Emap's UK magazines offer some sort of consistency.

In addition, Emap owns some minority titles (anybody for Model Rail, Country Walking or Practical Fishkeeping?) that may be difficult to dislodge as niche market leaders. But circulation numbers of these titles tend to be less than 10% of the company's leading publications, such as lads mag FHM and celebrity weekly Heat, which presumably generate greater revenues and face much stiffer competition.

You could also argue advertisers get 'more bang for their buck' through magazines and their specific targeting of certain audiences. Lads mags in particular have reeled in companies looking to attract young ABC1 men, with FHM now apparently read by more 15-24-year-old males than the Sun. In fact, it's fair to say only television listing magazines have roughly the same reader demographics as the general population.

Nevertheless, anybody visiting a supermarket will find a vast array of magazines offering the same sort of copy. Competition between industry players would therefore seem quite intense, with customers (both the ordinary reader and the advertiser) having plenty of choice and plenty of media substitutes.  Only when dealing with suppliers (paper and printing) can Emap's magazines really dictate terms.

Barriers to entry would appear few and far between too, with cash to sustain new launches perhaps the only hurdle for startups to jump. That said, launch capital could be a large. For instance, only sector leaders IPC and Emap recently entered the men's weekly market (via Nuts and Zoo respectively), with Emap stating that launch costs for all its magazines would be £20m-£30m in the current financial year.

Staff creativity then is at the heart of Emap's consumer magazine success. The aforementioned 'relentless churn of new titles' means Emap must keep constantly on top of changing fashions, tastes and interests by developing new ideas, markets and brands. Emap has said in the past that 25% of UK consumer magazine newsstand sales come from titles launched in the last five years -- hardly the type of business you could leave a managerial monkey in charge of.

But consumer magazines do have some financial positives. They're small ticket items and are inherently repeat purchase, which provides some operational predictability. And many readers take out subscriptions, which provide cash upfront and does wonders for working capital. They don't require much tangible capital expenditure either. Between 1994 and 2004, magazine profits have jumped 152% while group tangible assets have stayed steady at £30m

Despite the reliable long-term record and solid cash flow, one thing remains clear. Emap's consumer magazines have nothing like the wide, obvious moat that watch list shares such as Associated British Ports (LSE: ABP), Imperial Tobacco (LSE: IMT) or the London Stock Exchange (LSE: LSE) enjoy.

Half-year results

Emap published its half-year results earlier this month:

Six months to	30 Sep 2004	20 Sep 2003
Turnover (£m)	522	509
Operating profit (£m)	106	103
Pre-tax profit (£m)	96	94
Earnings per share (p)*	27.0	26.7
Dividend per share (p)	8.0	7.6

(*Underlying. All figures adjusted for goodwill)

Emap's diversified media assets produced a steady performance, as progress at its UK consumer magazines and business-to-business activities offset deteriorations within French magazines and UK radio.

In terms of valuation, Emap produced free cash of 53.5p per share in the year to September 2004, giving a 714p buy price for investors demanding a 7.5% free cash flow yield. Note though that this calculation is based on a 25% corporation tax rate currently used by the company. Tax at the standard 30% rate gives 49.8p per share of free cash and a buy price of 665p. Using this lower entry point would help to balance the lack of a true franchise within the company's consumer magazines operation.

Maynard owns shares in Associated British Ports and London Stock Exchange.

Portfolio value

Holding	Number of shares	Closing price 29/11/04 (p)	Value (£)
Associated British Ports	681	471	3,207.51
Emap	372	803	2,987.16
Halma	1,920	157	3,014.40
Johnston Press	1,608	521.5	8,385.72
London Stock Exchange	2,018	409	8,253.62
Cash			87.41
Total			25,935.62