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January 31, 2006

Knight Ridder: Weaker Than Peers As Buyout Awaits

While Knight Ridder's earnings report was sloppy with weak December trends, I am surprised the shares would trade down 2% given that the investment case is totally controlled by the auction underway for the company. On this front, management led off the call by announcing it would take no questions. One analyst did have the guts to act about recent newspaper reports that the company is promising an additional $140 million in cost savings (significant on and an EBITDA base of $600 million). Management would not comment except to say that you should not believe rumors printed by non-KRI owned newspapers. The attempt at humor was appreciated but, in my opinion, this is a relevant question for current shareholders and should have been more directly addressed....

Reported EPS came in at $1.24 for 4Q05. Management went through an explanation that claimed on a pro forma basis EPS were $1.16 vs. $1.16 a year ago. Another analyst noted that a few of the times that the company is claiming as one-time costs seem like ongoing expenses. This analyst also pointed out that he tax rate was a bit lower than expected and equity income higher than expected, implying that quality of earnings and operating earnings were not up to snuff. It seems this is what is driving the 2% decline in the shares as just in case the auction fails, earnings power on the operating line may not be what was previously expected.

For all of 2005, management noted a pro form EPS figure of $3.35 vs. $3.52 in 2004. Current consensus is for $3.69 in 2006. Management provided some general guidance for the year that makes this figure plausible, forecasting ad revenue up 3-4% and operating income up in the mid to high single digits. KRI has been buying back shares so an operating income of this magnitude could get EPS growth toward up 10%. One thing in support of management's outlook is good expense control, up just 1% in the fourth quarter. Another analyst did note, however, that the newsprint expense increase of 2% seemed awfully low compared to peers who faced increases in the upper single digits. In support of its advertising revenue gains, management said that help wanted and real estate remain strong, while auto and retail which were quite weak in 2005 would at least be less negative due to easier comparisons. Nevertheless, KRI had one of the weaker ad revenue performances in December (along with Tribune).

I am guessing that this is the last conference call for KRI of any importance. The auction should wrap up in March at the latest. A buyout price in the $60s seems likely as lenders and buyers are plentiful. It is possible the deal could reach into the $70s but I'd be surprised if buyers paid up that much given the weal secular fundamentals.

With just 10% or so upside on the buyout, and no guarantee a deal will come to fruition, I am not interested in speculating in KRI shares. Other names in the group are equally cheap, offer greater operating leverage, and are experiencing better current advertising momentum.

Posted by Steve Birenberg at January 31, 2006 02:15 PM in KRI