Business context and reporting period
Daily Journal Corporation’s Form 10-Q covers the three months ended December 31, 2012, its first fiscal quarter of 2013, compared with the three months ended December 31, 2011. The company operates a traditional newspaper, magazine and public-notice business and a justice-agency software business through Sustain and, following its December acquisition, New Dawn Technologies.
Financial performance and position
| Metric | Q1 FY2013 | Q1 FY2012 |
|---|---|---|
| Revenue | $7.693 million | $7.920 million |
| Operating income | $705,000 | $2.260 million |
| Income before taxes | $1.264 million | $2.586 million |
| Net income | $834,000 | $1.706 million |
| Diluted earnings per share | $0.60 | $1.24 |
| Operating cash flow | $548,000 | $640,000 |
| Comprehensive income | $8.031 million | $5.625 million |
Revenue declined 3%; operating income fell about 69%, and net income fell about 51%. Operating margin was approximately 9%, versus 29% a year earlier. Net margin was approximately 11%, versus 22%. The tax provision was $430,000 in the quarter; the reported effective tax rate was 34% in both comparable periods.
At December 31, 2012, cash and cash equivalents were $4.388 million and marketable securities were $114.120 million. Working capital was $79.057 million. Total assets were $158.455 million and shareholders’ equity was $95.257 million. The company had a $14 million investment-margin borrowing, secured by marketable securities, at a floating rate of the Federal Funds Rate plus 50 basis points; it has no stated maturity. Operating cash flow was below net income, and investing activities used $11.145 million, principally for New Dawn.
Marketable securities had a cost basis of $49.693 million and fair value of $114.120 million, including $64.427 million of pretax unrealized gains. The $7.197 million net-of-tax increase in unrealized investment appreciation drove comprehensive income above net income. The company said its investments were concentrated in six companies.
Material changes and notable items
- Revenue declined by $227,000, principally because trustee-sale notice and related service-fee revenue fell $567,000; New Dawn contributed $247,000 of maintenance revenue for the period included.
- Operating costs rose $1.328 million, or 23%, to $6.988 million. Personnel costs increased $885,000; depreciation and amortization increased $170,000, mainly due to New Dawn acquisition-related amortization.
- On December 4, 2012, the company acquired all of New Dawn for $14 million cash, funded by the margin borrowing. New Dawn’s results from December 5 through December 31 included $247,000 revenue, $938,000 expenses and a $691,000 pretax loss. The purchase-price allocation was preliminary and included $9.5 million of identifiable intangibles and $14 million of goodwill.
- The Sustain and New Dawn segment reported a $1.491 million pretax loss, compared with a $444,000 loss in the prior-year quarter. The traditional business reported $2.755 million pretax income, down 9%.
Outlook, risks and contingencies
Management expects fewer foreclosure notices and declining public-notice advertising revenue in fiscal 2013. Notices published by the company fell 38% year over year in the quarter. Management said the California Homeowner’s Bill of Rights, effective January 1, 2013, is expected to slow and delay foreclosures, and warned that print-based earnings could decline substantially over time; it does not expect commercial advertising to offset the decline.
Public-notice advertising and related fees were about 52% of total revenue. Results are also exposed to changes in laws requiring publication in adjudicated newspapers and to possible challenges to a newspaper’s adjudicated status. Software revenue depends on project completion and customer acceptance, customer demand and new-customer wins; development costs are expensed as incurred. Management cited risks including software-development efforts, customer and contract timing, investment-market declines and receivable collectibility.
The company said it expects to fund operations for the foreseeable future from operating cash flows and working capital and can borrow against its securities. It noted that a significant decline in one or more concentrated investments could reduce equity and potentially result in impairment losses. Management did not believe ordinary-course litigation would materially affect financial position or results. No subsequent event requiring recognition or disclosure was reported. No quantified earnings or revenue guidance was provided.
Important facts for investors to verify
- Whether foreclosure-related public-notice revenue continues to decline, and the pace and effect of the California law and any changes to publication requirements.
- New Dawn’s integration, future profitability and ability to complete installations and obtain customer acceptance; also verify the final purchase-price allocation and deferred installation obligations.
- The value, concentration and unrealized gains of the investment portfolio, including the effect of market declines on equity and earnings.
- The terms and ongoing cost of the $14 million floating-rate margin borrowing, including the securities pledged as collateral.
- Whether operating cash generation improves and software-segment losses narrow as acquisition and development costs continue.