Lee Enterprises, Inc. Form 10-Q Summary
Business context and reporting period
This filing covers the 13 and 26 weeks ended March 29, 2020, Lee Enterprises’ fiscal second quarter and first half, compared with periods ended March 31, 2019. Lee operates local newspapers, digital media, advertising and marketing services, subscription products, commercial printing and digital services through TownNews.
On March 16, 2020, Lee acquired substantially all of BH Media Group’s newspaper business and The Buffalo News from Berkshire Hathaway for $140.0 million. The acquired operations contributed approximately $14.6 million of revenue and $1.0 million of net income during the 13 days included in the quarter. The acquisition nearly doubled the company’s operating footprint and makes period-over-period comparisons less comparable.
Financial performance and key metrics
| Metric | 13 weeks ended Mar. 29, 2020 | 13 weeks ended Mar. 31, 2019 | 26 weeks ended Mar. 29, 2020 | 26 weeks ended Mar. 31, 2019 |
|---|---|---|---|---|
| Operating revenue | $121.4 million | $122.7 million | $243.7 million | $258.9 million |
| Operating income | $13.8 million | $12.6 million | $32.1 million | $40.3 million |
| Net income | $(5.0) million | $(2.3) million | $0.7 million | $8.4 million |
| Net income attributable to Lee | $(5.4) million | $(2.7) million | $(0.05) million | $7.7 million |
| Diluted EPS | $(0.09) | $(0.05) | $0.00 | $0.14 |
| Adjusted EBITDA | $17.4 million | $23.6 million | $45.5 million | $59.7 million |
| Cash costs | $105.9 million | $101.6 million | $202.3 million | $204.7 million |
| Revenue less cash costs | $15.5 million | $21.1 million | $41.4 million | $54.2 million |
The revenue-less-cash-cost margin was approximately 12.8% in the quarter versus 17.2% in the prior-year quarter, and 17.0% for the first 26 weeks versus 20.9% in the prior-year period.
- Quarterly advertising and marketing services revenue declined 3.2% to $60.9 million. Print advertising fell 6.7%, while digital advertising and marketing services increased 2.6% and represented 40.5% of advertising revenue.
- Quarterly subscription revenue increased 3.0% to $46.4 million, supported by acquired revenue, pricing and digital-only subscribers. Digital-only subscribers approached 200,000.
- Total digital revenue increased 4.9% in the quarter to $36.7 million and represented 30.3% of operating revenue. TownNews revenue increased 11.1% on a standalone basis.
- Quarterly cash costs increased 4.2%, primarily because of acquired operations and digital investments. Newsprint and ink expense declined 25.8%, while compensation increased 1.9% and other operating expense increased 10.1%.
- Operating income benefited from a $6.1 million net gain on asset sales and other items, compared with a $0.1 million expense in the prior-year quarter.
- Debt financing and administrative expense included a $9.6 million write-off of previously unamortized financing costs and other refinancing expenses, materially reducing reported pretax and net income.
Cash flow, debt and liquidity
- Cash provided by operating activities was $10.7 million for the first 26 weeks, down from $27.8 million in the prior-year period.
- Investing activities used $119.7 million, including $131.0 million of acquisition spending, partly offset by $17.6 million of asset-sale proceeds and $5.8 million of capital expenditures.
- Financing activities provided $131.2 million. Lee borrowed $576.0 million under the new term loan and repaid $443.6 million of prior debt.
- Cash and cash equivalents were $30.8 million at March 29, 2020, compared with $8.6 million at September 29, 2019. The company described this as its available liquidity, excluding future cash flows.
- The new debt is a $576.0 million fixed-rate, 9.0% term loan due March 16, 2045. Berkshire-affiliated BH Finance is Lee’s sole lender. There is no revolving facility and no scheduled mandatory principal amortization other than excess-cash-flow, asset-sale and certain change-of-control provisions.
- Beginning June 28, 2020, excess cash flow generally means cash exceeding $20.0 million and must be used to prepay the term loan. The company also must cash-collateralize certain letters of credit by June 30, 2020.
- The company reported compliance with debt covenants at March 29, 2020 and stated that the credit agreement contains no leverage or financial-performance covenants. The agreement restricts additional debt, dividends, investments, acquisitions, liens and certain other transactions.
Material changes, outlook and risks
COVID-19 caused immediate declines in local economic activity and advertising demand, particularly print advertising. Lee implemented work-from-home arrangements, reductions in force, compensation reductions, furloughs, capital-spending reductions and vendor negotiations to preserve cash. Management expected sufficient near-term liquidity to meet obligations, but warned that the pandemic could materially affect liquidity, cash flow and the ability to meet ongoing obligations.
The company did not identify an impairment-triggering event for long-lived or indefinite-lived assets as of March 29, 2020, but will continue monitoring conditions. Lee has substantial goodwill and intangible assets and disclosed that further market-value, revenue, expense or cash-flow deterioration could result in additional impairment charges.
The CARES Act permits deferral of certain employer payroll taxes and pension contributions. Lee elected to defer the employer share of applicable social taxes and expected to defer remaining fiscal 2020 pension contributions; the company was evaluating other potential tax benefits.
- Key risks include continued or accelerated revenue declines from COVID-19, permanent changes to publishing and advertising, declining print circulation, technology and cybersecurity risks, labor and commodity costs, and inability to achieve planned expense reductions or acquisition synergies.
- The company assumed approximately $43.5 million of pension obligations and $36.8 million of postemployment benefit obligations in the acquisition.
- Lee accrued $3.3 million for a potential multiemployer pension withdrawal liability, payable over 20 years; the ultimate amount and timing remain uncertain.
- The preliminary acquisition accounting remains subject to adjustment, including the valuation of acquired assets, liabilities, taxes and goodwill.
- The BH lease covers 68 properties and related fixtures, requires annual rent of $8.0 million plus operating costs, and resulted in approximately $56.2 million of right-of-use assets and lease liabilities at acquisition.
Most important facts for investors to verify
- Whether COVID-19-related advertising declines persisted or accelerated after March 29, 2020 and the resulting effect on revenue, adjusted EBITDA and liquidity.
- Lee’s ability to generate sufficient cash to fund 9.0% interest, excess-cash-flow prepayments, letters-of-credit collateralization and operating needs without a revolving facility.
- The final purchase-price allocation for BH Media and The Buffalo News, including goodwill, intangible assets, pension obligations and tax liabilities.
- The extent to which acquired operations produce anticipated cost synergies and whether integration costs or restructuring charges increase.
- Compliance with the credit agreement, including the $20.0 million excess-cash-flow threshold and restrictions on dividends, acquisitions and additional indebtedness.
- Potential impairment of goodwill and other intangible assets if market value, revenue or cash-flow assumptions deteriorate.
- The ultimate amount of the multiemployer pension withdrawal liability and the outcome of tax examinations and other legal contingencies.