Business Context and Reporting Period
Company: Daily Journal Corp (Daily Journal Corporation)
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Three and six months ended March 31, 2011
Operations: The Company operates two primary segments: (1) A "traditional business" publishing newspapers (including the Los Angeles and San Francisco Daily Journals), magazines, and providing public notice advertising services; and (2) Sustain Technologies, Inc., a wholly-owned subsidiary providing case management software to courts and justice agencies.
Key Financial Metrics (Six Months Ended March 31, 2011)
| Metric | 2011 (6 Months) | 2010 (6 Months) |
|---|---|---|
| Total Revenues | $17,869,000 | $18,968,000 |
| Net Income | $4,026,000 | $3,816,000 |
| Diluted EPS | $2.92 | $2.76 |
| Operating Cash Flow | $4,788,000 | $4,207,000 |
| Cash & Equivalents | $5,693,000 | $3,049,000 (End of Period) |
| Working Capital | $64,889,000 | N/A |
| Total Assets | $103,977,000 | $93,755,000 |
| Investment Portfolio (Fair Value) | $78,274,000 | $63,581,000 |
Segment Performance (6 Months):
- Traditional Business: Revenues of $16,257,000; Pretax Income of $6,908,000.
- Sustain: Revenues of $1,612,000; Pretax Loss of $(612,000).
Material Changes vs. Prior Period
Revenue Decline: Consolidated revenues decreased by $1,099,000 (6%) compared to the prior year. This was driven by declines in public notice advertising ($275,000), classified advertising ($96,000), display advertising ($65,000), circulation ($239,000), and Sustain consulting revenues ($98,000).
Expense Reduction: Total costs and expenses decreased by $1,129,000 (9%). Personnel costs dropped significantly by $1,173,000 (14%) due to departmental reorganizations and a reduction in the Management Incentive Plan accrual. However, general and administrative expenses increased by $169,000 (10%) primarily due to legal fees.
Profitability: Despite lower revenues, consolidated pretax income increased by $130,000 (2%) to $6,296,000. Net income increased by $210,000 (5.5%). The effective tax rate decreased to 36% from 38% due to increased domestic production activity deductions.
Investment Portfolio: The Company increased its investment portfolio significantly. Unrealized pretax gains on investments rose to $41,683,000 from $29,655,000 in the prior year. The portfolio is concentrated in five companies, including common stocks of two Fortune 200 companies and two foreign manufacturing companies.
Outlook, Risks, and Management Commentary
Outlook: Management anticipates declining earnings in the traditional business segment for fiscal 2011 due to a 10% decrease in foreclosure notices in California and Arizona, which drives public notice advertising revenue. No offsetting increase in commercial advertising is expected. Sustain's consulting revenues remain uncertain due to government budget reductions.
Risks and Contingencies:
- Tax Dispute: The IRS is auditing tax returns for years 2002-2007 and has proposed disallowing approximately $700,000 in research and development credits. The Company is contesting this in Tax Court; a reserve of $700,000 has been established.
- Investment Concentration: The investment portfolio is concentrated in only five companies. A significant decline in the value of one or more of these holdings could materially decrease shareholders' equity.
- Sustain Development: Significant costs are being incurred for new software development. If these programs are not successful, the Company's ability to compete and service customers will be adversely impacted.
- Regulatory Changes: Potential changes in laws limiting public notice advertising requirements pose a risk to the traditional business model.
Key Facts for Investor Verification
- Foreclosure Dependency: Verify the trend of foreclosure notices in California and Arizona, as this directly correlates with the majority of the Company's advertising revenue.
- IRS Audit Status: Monitor the resolution of the IRS audit regarding the $700,000 R&D credit disallowance, which could impact future tax provisions.
- Investment Valuation: Review the specific holdings in the concentrated investment portfolio (5 companies) to assess exposure to market volatility.
- Sustain Segment Viability: Assess the progress of Sustain's software development and its ability to secure new government contracts amidst budget cuts.
- Deferred Revenue: Note that $5,262,000 in deferred subscription revenue is classified as a current liability, representing future earnings.