Lee Enterprises, Inc. — Fiscal 2017 First-Quarter Form 10-Q
Business context and reporting period
Lee Enterprises is a local news and information provider operating print and digital publications, primarily in the Midwest, Mountain West and West. The filing covers the unaudited 13 weeks ended December 25, 2016, compared with the 13 weeks ended December 27, 2015. Results are subject to seasonality and are not necessarily indicative of the full fiscal year.
- Operations included 46 daily and 34 Sunday newspapers, nearly 300 weekly and niche publications, and digital services.
- Print and digital subscribers totaled approximately 0.9 million daily and 1.2 million Sunday subscribers.
- Digital revenue increased despite continued declines in print advertising and circulation.
Financial performance and key metrics
| Metric | Q1 FY2017 | Q1 FY2016 | Change |
|---|---|---|---|
| Total operating revenue | $154.0 million | $168.4 million | Down 8.6% |
| Operating income | $31.4 million | $36.4 million | Down 13.7% |
| Operating margin | 20.4% | 21.6% | Down approximately 120 bps |
| Net income | $12.4 million | $11.5 million | Up 8.1% |
| Income attributable to Lee | $12.2 million | $11.2 million | Up 8.3% |
| Diluted EPS | $0.22 | $0.21 | Up $0.01 |
| Adjusted EBITDA | $43.3 million | $48.6 million | Down 10.9% |
| Adjusted EBITDA margin | 28.1% | 28.8% | Down approximately 70 bps |
| Cash flow from operations | $22.9 million | $21.1 million | Up 8.6% |
- Advertising and marketing services revenue declined 11.9% to $93.0 million; retail, classified, national and niche advertising all declined.
- Subscription revenue declined 3.1% to $48.9 million. Digital services revenue increased 4.8% to $3.5 million.
- Standalone digital advertising and marketing services revenue increased 6.8% to $22.9 million, representing 24.6% of advertising and marketing services revenue. Total digital revenue increased 6.5% to $26.4 million.
- Cash costs decreased 8.0% to $114.8 million, driven by lower compensation and other operating expenses. Newsprint and ink costs increased 3.1% despite lower volume.
- Interest expense declined 12.8% to $15.0 million as debt balances decreased. Other non-operating income included a $3.1 million favorable change in warrant fair value.
- The effective tax rate decreased to 33.5% from 38.3%.
Balance sheet, debt and liquidity
- Cash and cash equivalents were $20.1 million at December 25, 2016, compared with $17.0 million at September 25, 2016.
- Principal debt outstanding was $599.4 million, consisting primarily of $385.0 million of 9.5% senior secured notes, $84.0 million of first-lien term debt and $130.4 million of 12.0% second-lien term debt.
- Total debt, net of debt issuance costs and current maturities, was $549.0 million. Weighted average debt cost was 9.7%.
- Approximately $33.3 million was available under the revolving facility. Including cash, reported liquidity was $53.4 million.
- Debt, net of cash, was 3.9 times trailing-twelve-month adjusted EBITDA, compared with 4.3 times in the prior-year comparable period.
- Cash used in financing activities was $18.1 million, primarily reflecting $17.8 million of debt repayments. Capital expenditures were $1.1 million.
- Management stated that it expects operating cash flow and available liquidity to satisfy interest and principal payments due over the next twelve months. The company was in compliance with its debt covenants at December 25, 2016.
Material changes versus the prior comparable period
- Revenue declined 8.6%, primarily because of continued print advertising weakness, lower classified volume and lower subscription volumes.
- Operating income and adjusted EBITDA declined because revenue pressure exceeded cost reductions.
- Net income and reported EPS increased, primarily due to lower interest expense, a lower effective tax rate and a $3.1 million favorable warrant valuation adjustment. Excluding warrant valuation effects, adjusted diluted EPS was $0.16 versus $0.21.
- Operating cash flow improved by $1.8 million despite lower operating income.
- Debt declined from the prior year, and the company continued scheduled and voluntary debt repayments.
- The Provo Daily Herald was sold in August 2016; management uses same-property comparisons to exclude its results.
Guidance, outlook, risks and unusual items
- Management expects fiscal 2017 cash costs, excluding workforce adjustments, to decrease 5% to 6% on a same-property basis.
- Capital expenditures are expected to total up to $10.0 million in fiscal 2017.
- Management expects no significant income tax payments in the current fiscal year because of federal and state net operating loss carryforwards.
- Newsprint prices were approximately 15% higher year over year at the end of the quarter. A $10-per-ton newsprint price increase would reduce annualized pretax income by approximately $0.5 million, based on expected 2017 consumption.
- Approximately 14% of debt carried floating interest rates; a 100-basis-point LIBOR increase would reduce annualized pretax income by approximately $0.8 million, subject to applicable rate floors.
- Key risks include continued declines in print advertising and subscriptions, digital competition and technology changes, newsprint and energy costs, labor costs, covenant compliance, refinancing needs, liquidity, interest rates and potential impairment of goodwill and intangible assets.
- The company has recorded nearly $1.3 billion of historical goodwill impairment charges and may incur additional non-cash impairment charges if market conditions or projected cash flows deteriorate.
- A potential multiemployer pension withdrawal liability exists; the amount and timing cannot currently be determined and any liability would be funded over 20 years.
- Routine tax examinations and ordinary-course legal proceedings remain unresolved, but management does not expect them to have a material adverse effect on the consolidated financial statements.
- Management stated that disclosure controls were effective and that no material change occurred in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether continued print advertising and subscription declines are offset by digital revenue growth and cost reductions.
- Whether operating cash flow remains sufficient to meet scheduled debt repayments, interest expense and future maturities.
- The company’s ability to refinance or repay significant debt maturities beginning in 2018 and extending through 2022.
- Compliance with debt covenants and the availability of the revolving facility under changing operating conditions.
- The sustainability of reported earnings after excluding the non-cash warrant valuation benefit.
- Exposure to higher newsprint prices, floating interest rates, labor costs and potential asset impairments.
- The outcome and potential financial impact of tax examinations, legal matters and the multiemployer pension withdrawal claim.