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Gannett a Stand-out in the Newspaper Industry

(Guest Commentary - May 11, 2006)

Dear Subscribers and Readers,

For those who had wanted to learn more about picking stocks and evaluating companies, I have invited our regular guest commentator Mr. Bill Rempel back for a quick discussion of an individual stock that he likes (he is writing in place of me this Thursday since I have to take an actuarial exam tomorrow).  In this commentary, Bill is going to discuss Gannett Co. – a stock which hasn't escaped the carnage in the stock prices of the newspaper industry over the last two years.  Bill believes that decline in GCI is very much unjustified and that the stock may now be a “buy.”

By the way, please continue to cast your votes on the prospects of Dell.  Is Dell a buy, a hold, or a sell?  So far, the sellers are clearly getting the upper-hand!

Without further ado, following is biography of Bill:

Bill Rempel (aka nodoodahs) is an active poster on the MarketThoughts forum as well as a few others around the web. Bill is a regular, monthly guest commentator on our website (see “Coca-Cola Still a Sell” for his last individual stock commentary). Bill graduated from Caddo Magnet High School (a high school for nerds) in back in 1985 and proceeded to learn the hard way when he drank his way out of a scholarship to Tulane later that year. After a few years of sweating for a living, he decided to go back to school, and graduated from LSU-Shreveport in 1995 with a Bachelors in Mathematics - all the while working the overnight shift stocking shelves in a grocery store.

Post-college, Bill has been in the P&C insurance industry as an actuary, product manager, and pricing manager. Bill and his wife Millie are amateur investors with a variety of holdings, but they prefer to buy and hold value investments. In typical "value" style, they live cheap, driving old cars and preferring to save or invest instead of buying fancy "stuff."

Disclaimer: This commentary is solely meant for education purposes and is not intended as investment advice.  Please note that the opinions expressed in this commentary are those of the individual author and do not necessarily represent the opinion of MarketThoughts LLC or its management.

This stock has been getting some attention from various "value" writers and gurus, and, true to "value" stock form, has been continuing to fall in price … until recently.  It looks as if the tide has finally turned, irrespective of the fact that it faked me out in December.  So it is with great pleasure I present to you the cash-generating machine that is … Gannett?

Gannett Co. Inc. is thought of as a "newspaper stock," and that it is, and one of the best ones.  However, GCI is also a chain of television stations, a commercial printer, an internet advertising service, a collection of web content providers, and a partner in enterprises like  They own one of the few national-sized print edition papers that hasn't declined in circulation, and (and I hate them for this) they are the driving force behind the annoying ads on those tiny little LCD screens in the elevators at your convention's hotel.  Oh, bother.

Are newspapers dead? 

Well, maybe the L.A. Times is.  After all, in today's world of broadband connections, who goes to the morning paper to get the news?  After all, the coming carpet bombing and invasion of Iran by the U.S. will be covered better online than I'll ever see it done in newsprint.  However, I don't think the readers of the Daily World will be turning to Google News for tips on avoiding senior scams, or sports stories about a local kid signing with LSU in Eunice to play baseball instead of football. No, there will always be a place for local news in a local paper, in small-town U.S.A.  Maybe not always, but at least for our lifetimes.  Even if you don't buy that, could you buy that the stories of their death have been exaggerated?

Gannett specializes in building market share in smaller communities where the newspaper will most likely survive, if not thrive.  Newspapers are where small-town America still shops for a decent $2,500 truck, a job at the mattress factory, or a good fencing contractor.  Newspapers are where small-town America still goes to check if the Opelousas Catholic Vikings beat Evangel Christian in the Class 1A semis last night.  And if you aren't checking in print, then you're checking the local paper's online site.  The 90 or so local papers account for about 5 million daily paid circulation, or a little more than twice the 2.3 million daily paid circulation of their flagship paper, USAToday.  This business unit of Gannett also includes the Clipper magazine, the Army Times Publishing unit, Nursing Spectrum, and a network of six commercial printing operations.  It is the lion's share of the revenues for Gannett, and it is growing.  Yes, growing.

Value Resumé

Vital statistics in this stock's "value" brag sheet include:

  • P/E of 11.07
  • Forward P/E of 10.86
  • PEG (five year) of 1.29
  • Price/Sales of 1.78
  • Price/Book of 1.79
  • Profit Margin of 16.38%
  • Return on Assets of 8.22% (note! it's been over 8% for four straight years)
  • Return on Equity of 15.40%
  • Debt/Equity of 0.718
  • Forward Dividend Yield of 2.10%, and
  • 52-week return of –26.09%.
Growing the Giving

One of the main stories I see in Gannett is powerful growth … in dividends.  The quarterly dividend has grown almost uninterrupted from 10.5 cents per share 20 years ago to 29 cents per share today, and the annual dividend has grown from $0.71 in 1996 to $1.12 in 2005, an annual growth rate of 5.1%.  The dividend yield has pretty much been 2% since water was wet.  The story of consistent growth in dividends speaks to the time-tested ability of the company to generate earnings and cash flow.

The dividend has been right as rain, coming to an easily manageable 23% of net income over the last 5 years.  Other financial items of interest include the fact that Gannett has been a net payer of debt over the last five years, and a net purchaser of stock.  Not that I'm a huge fan of stock buybacks in general, but it's refreshing to see a stock throw off positive cash while paying a dividend, reducing debt, and buying back stock, as opposed to stating earnings while issuing debt, or (my favorite recent pet peeve) issuing debt in order to buy back overpriced stock.  I can't say that the buyback process has been incredibly accretive to the bottom line, since the average price was $85 in 2004 and $74 in 2005.  However, it might be somewhat excusable, since the P/E of stock bought back in 2004 was about 17, and about 14.6 in 2005.  Nah.  They could have easily spent the same money on a special dividend, and with buybacks, the proof is in the pudding – the stock is lower today.  I calculate the dilution factor of GCI at a very small 0.8%, meaning that options form a very negligible part of the overall compensation.  The buyback isn't about mopping up excess shares.  They have taken care of mopping up some of the options by accelerating the vesting process.  All in all, I find nothing to like in the buyback, but I do like the otherwise responsible use of cash flow in reducing debt and paying a dividend.

Metrics Galore

I like the financial metrics of Gannett.  I like 'em a lot.  The cash flow is tremendous, and there is a ton of free cash flow (EBITDA + Changes in Working Capital + Net PPE - Interest Expense, Deflated for 35% Income Tax Rate).  The debt service averages about 10% of pre-interest OCF, which is acceptable, and the current liabilities represent only about ¾ of the annual OCF.    One thing I don't like is the lack of tangible equity, but nobody's perfect.  Considering that they've been able to pay that dividend, and grow it, while growing the equity, growing the revenue, and growing the earnings, it's a picture of financial health.

A Little History

I can't really remember what year Al Gore invented the internet, but it was at least 10 years ago.  The internet has had plenty of time to kill the newspapers, so let's see what Gannett has managed to accomplish while on their way to the rest home, or deathbed, or wherever it is that newspapers are supposed to be going.

Year-End Current Ratio Book Value/ Share Debt/ Equity Return on Equity (%) Return on Assets (%)
2005 1.33 31.80 0.72 16.20 7.80
2004 1.36 32.10 0.56 16.10 8.60
2003 1.27 30.92 0.46 14.40 8.20
2002 1.18 25.80 0.66 16.80 8.40
2001 1.04 21.58 0.89 14.50 6.30
2000 1.11 19.31 1.13 19.10 7.50
1999 1.22 16.66 0.53 20.70 10.60
1998 1.25 14.26 0.33 25.10 14.30
1997 1.15 12.26 0.50 20.50 10.30
1996 1.07 10.37 0.64 32.20 14.90

While it is plainly obvious that the returns on assets and equity have fallen from their pre-internet highs, it is encouraging to see that they seem to have stabilized at some pretty lofty levels.  It's hard to argue with an ROA of 8%, and hard to find company for an ROA that high.  During the time that the internet has been killing the newspapers, the company has managed to triple the book value, improve the current ratio, and as we saw earlier, increase the dividend by 58%.  There was an infusion of debt in 2000, but it seems to have been paid down since then.

I recognize that you may still be unconvinced, so perhaps this picture of revenue growth and earnings growth may impress you.

Year-End Sales EBIT Total Net Income EPS
2005 7598.9 2028.4 1211.3 4.92
2004 7381.3 2136.1 1317.2 4.92
2003 6711.1 1979.6 1211.2 4.46
2002 6422.2 1910.8 1160.1 4.31
2001 6344.2 1592.3 831.2 3.12
2000 6222.3 1828.0 971.9 3.63
1999 5260.2 1621.8 919.4 3.26
1998 5121.3 1748.8 999.9 3.50
1997 4729.5 1307.2 712.7 2.50
1996 4421.1 1222.2 624.0 2.20

In case you're wondering, that equates to 9.4% annualized growth in EPS over the last 9 years, with a hiccup in the last year.  Net income grew at a 7.6% pace, and revenues grew at a 6.2% pace.  These are all growth rates that cast doubt on the "newspapers are dead" story.  It also speaks to the quality of Gannett's management that the company has been able to improve margins at a time when many papers are struggling.

Growth Hiccups + Already Cheap Stocks = Buying Opportunities

When a Google misses their earnings projections, or fails to beat them by a wide enough margin, their unrealistic multiples tend to … collapse. So just what does that hiccup in the earnings growth mean for a stock that was already trading at a discount?  It means that an already cheap stock gets cheaper.

Year-End Avg P/E Price/ Sales Price/ Book
2005 14.3 1.9 1.9
2004 17.3 2.8 2.6
2003 17.5 3.6 2.9
2002 16.5 3.0 2.8
2001 19.9 2.8 3.1
2000 17.9 2.7 3.3
1999 22.1 4.3 4.9
1998 17.5 3.5 4.5
1997 19.5 3.7 5.0
1996 15.7 2.4 3.6

The sentiment on this stock has hardly been worse than it is today.  When the sentiment turns, the stock will turn up as well.  The stock is currently underpriced for its growth rate.

To illustrate this point, assume a Discounted Cash Flow model with two stages, a five-year growth stage and a remainder wherein growth reverts to the S&P 500 historic mean of 6%.  Further, assume a discount rate of 11.5%, which is the historic average gain of the S&P 500.  What growth rates justify different P/E ratios under that scenario?

10% five-year growth justifies a 22 P/E,

15% five-year growth justifies a 27 P/E,

20% five-year growth justifies a 33 P/E,

25% five-year growth justifies a 40 P/E,

30% five-year growth justifies a 48 P/E.

As we've already discussed, Gannett has historically maintained about a 9.4% growth in EPS and a 7.6% growth in net income.  Conservatively plugging in a 7.5% growth for only five years and reverting to 6% thereafter, we get a target P/E of 20.  Plugging in my personal ultra-conservative discount rate of 15%, that 7.5% growth merits a multiple of 12.  At this moment, Gannett is trading at a discount to some pretty conservative assumptions.  The target PEG listed above comes from analysts' estimates of a 5-year 8.5% growth in earnings.  It's certainly cheap and it's certainly on sound financial ground.

This stock may have just put in a bottom.  However, I must say that I thought it had bottomed and started back up in mid-December when I bought it, so caution should reign. 

Finally, in the interests of full disclosure, I have to confess.  I read the paper The Financial Times.

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