QUALIPORT
Quality In Conglomerates

By Maynard Paton (TMFMayn)
May 31, 2005

Qualiport member Emap (LSE: EMA) introduced its full-year results last week by explaining why the group operates as a media conglomerate:

"Emap has built a diverse spread of high quality media businesses with different degrees of cyclicality.  This gives the Group resilience, minimising risk and allowing it the flexibility to invest in its core brands at the point, in their different cycles, most likely to gain the maximum strategic advantage, and create the best return."

Companies with 'diverse spreads' of businesses always provide a bit of an investment dilemma.

On the one hand, a range of different subsidiaries should produce steady overall progress. Indeed, within its latest annual statement, Emap's various activities -- consumer magazines, commercial radio, trade journals, business exhibitions and music television -- were given individual ratings that went from 'strong' and 'good' through to 'reasonable' and 'stable' and down to 'mixed' or 'weak'.

But on the other hand, management time and effort can be wasted struggling to generate cross-selling opportunities across the group. Shareholders' money could instead be better spent digging a deeper, wider moat around the company's most prominent profit generator.

Structure changes

In Emap's case, the company's media assets don't have obvious overlaps. Evidence of this comes from how the group's segmental reporting of UK turnover has changed over the years.

In 2000, Emap's domestic operations were run as three simple divisions:

* Consumer Magazines;
* Business Communications (trade publications and exhibitions), and;
* Radio.

However, a new 'network structure' was introduced in 2001. At the time, the company claimed this would "build on the leading positions of our valuable assets in their respective markets and seek to more fully exploit opportunities across different media."

So, in came:

* Emap Elan (men's, women's and youth 'lifestyle assets');
* Emap Performance (radio stations and music magazines/television);
* Emap Automotive (car and bike magazines/trade publications/exhibitions);
* Emap Communications (other trade publications and exhibitions), and;
* Emap Active (leisure magazines).

Roll onto 2002, and UK operations had been consolidated into:

* Emap Consumer Media (non-music consumer magazines);
* Emap Communications (trade publications and exhibitions), and;
* Emap Performance (radio stations and music magazines/television).

And guess what? For 2005/6, the UK operations will be re-jigged into:

* Emap Consumer Media (consumer magazines and music television);
* Emap Communications (trade publications and exhibitions), and;
* Emap Radio.

So after re-arranging itself on interests (e.g. music, motors, etc.), Emap will now revert back to the media type structure last seen in 2000! Apparently the latest change is to "create opportunities for more collaboration across Emap's broad range of UK consumer-facing businesses." Sound familiar?

Sure, various boardroom changes since 2000 have prompted the divisional re-jigs, but the 'synergies' from owning radio stations, consumer magazines and business journals under one roof remain as vague as ever.

So...

Is Emap's conglomerate nature a worry? Not really, as each of the group's main UK divisions appears quite strong in its own right. Here's a breakdown of sales, operating profits and operating margins for the year ending March 2005:

UK Divisions	Turnover (£m)	Operating profit (£m)	Operating margin (%)
Consumer magazines	371	72	19.4
Business-to-business	228	69	30.2
Radio	98	22	22.4

Those high margins indicate Emap has a good set of independent divisions. Maybe Emap's board should come out and admit just that, rather than stringing shareholders along with all those media 'collaboration' opportunities!

In fact, there's no shame in companies being diversified.

It's worth remembering that Halma (LSE: HMLA), another Qualiport member, also fits into the conglomerate category and has a wide range of engineering businesses under its wing. Most of these subsidiaries are market leaders in their particular niches and there's little obvious benefit from producing fire detectors, water purifiers and industrial resistors deep within the same parent plc! But with dividends increasing every year for the last thirty or so, obviously Halma's strategy has worked well.

Same with Warren Buffett's Berkshire Hathaway (NYSE: BRK.A). Here, investors get a rich mix of insurance, building products, carpets, newspapers, confectionery, jewellery, home furnishings, footwear and a host of many other products. No obvious synergies there either, but similar to long-time Halma investors, few Berkshire stockholders would quibble with their firm's progress over the decades.

Accounts

What ultimately counts with any company -- diversified conglomerate or not -- is its financial achievements. Emap's latest statement showed its consolidated accounts are still in good shape:

Year to 31st March	2001	2002	2003	2004	2005
Turnover (£m)	1,153	1,029	967	1,050	1,050
Operating profit* (£m)	234	198	191	212	222
Exceptional items (£m)	(626)	(16)	13	(4)	(32)
Pre-tax profit (£m)	(429)	116	188	192	173
Earnings per share* (p)	56.8	45.6	49.0	55.8	57.9
Dividend per share (p)	19.5	19.5	21.6	23.5	24.9

(*adjusted for goodwill, exceptional items and write downs)

Group turnover inched 2% higher to £1,068m in the year to March 2005, with top-line improvements from UK consumer magazines and trade journals/exhibitions offsetting declines in UK radio advertising and revenues from Emap's stable of French publications. Underlying operating profit increased by £10m to £222m, leaving group margins at a very respectable 21%.

Year to 31st March	2001	2002	2003	2004	2005
Operating profit (£m)	234	198	191	212	222
Working capital change (£m)	1	(8)	16	(3)	(5)
Depreciation (£m)	15	14	12	15	13
Net capital expenditure (£m)	(19)	(10)	(16)	(15)	(12)

Cash generation remains superb. Emap's expenditure on working capital and tangible fixed assets was next to nothing in the last financial year, helping the dividend to be lifted 6% to 24.9p per share. Debt is still manageable as well. Net borrowings at the end of March 2005 came to £264m and interest payments were covered a safe 10 times by operating profits.

In terms of valuation, Emap's 810p shares trade on a price to earnings ratio of 14.0 and offer a yield of 3.1%. With earnings underpinned fully by cash, a 7.1% free cash flow yield is available. Demanding 7.5% requires a 772p entry price. Note though that these calculations are based on a 25% corporation tax rate currently used by the company. Tax at the standard 30% rate gives 54.1p per share of free cash and a buy price of 721p.

More: Emap's 2003/4 Annual Results | Emap's 2004/5 Interim Results

Maynard owns shares in Halma.

Portfolio value

Holding	Number of shares	Closing price 27/05/05 (p)	Value (£)
Associated British Ports	681	477.75	3,253.48
Emap	372	810	3,013.20
Halma	1,920	141.25	2,712.00
Johnston Press	1,608	482.5	7,758.60
London Stock Exchange	2,018	477.5	9,625.86
Cash			345.54
Total			26,708.68