U.S. newspaper stocks soar - can the rally last?

The Boston Globe's logo is seen on the newspaper's building in Boston, Massachusetts June 15, 2009. Three Boston businessmen, including a member of the family that used to own the Boston Globe, have emerged as suitors for the 137 year-old daily newspaper that the New York Times Company is trying to sell, the Globe reported recently.

NEW YORK (Reuters) - With all the talk of newspapers dying, telling people that Gannett Co Inc's (GCI.N) stock rose 96 percent in July and was the top gainer on the S&P 500 index would amount to a "man bites dog" headline.

Publishers would be happy to let investors believe the long march to the bottom ended in the last quarter, when cost cuts helped newspapers beat profit forecasts and restored a smidgen of faith in the viability of the news business.

The more likely story is that the second-quarter results surprised traders who sold the stocks short, forcing them to cover their positions, which contributed to the share rise.

"There wasn't much reason for those stocks to throw a party based on the top line," said Morningstar analyst Tom Corbett. "I think the market was, on one level, rewarding the cost-cutting, but that's not a sustainable path to profitability."

Besides Gannett, shares of many U.S. newspaper publishers have soared in recent weeks, outperforming even well-known powerhouses such as Apple Inc (AAPL.O). The New York Times Co (NYT.N) gained 43 percent and The Washington Post Co (WPO.N) rose 28 in July, compared with a 7 percent gain in the Standard & Poor's 500 Index .SPX of large-cap U.S. stocks.

Despite the rally, analysts say newspaper publishers have not found a way to reverse the decline in advertising revenue that one day could shut them down, and still lack a way to make enough money on the Internet to support their business.

"They've gone at the expense side really aggressively," said Gabelli & Co analyst Barry Lucas. "It doesn't mean that everybody's out of the woods."

More than a quarter of the shares in Gannett, publisher of USA Today and other papers, were shorted two months ago, a sign the market sees bad trouble ahead for the company. Now, short interest remains high, but is only at 17 percent.

About 13 percent of Lee Enterprises Inc's (LEE.N) shares are shorted now, compared with 21 percent in May. McClatchy Co's (MNI.N) short interest fell to 8 percent from 27 percent.

Short sellers borrow and sell shares, hoping stock prices fall because they make a profit when they buy back shares at a lower price and return them. When shares rise, they cover themselves to avoid owing big money, pushing up prices more.

Lucas estimated the value of Gannett at less than five times earnings before interest, taxes, depreciation and amortization (EBITDA) before the latest rally. Publishers are trading more around the "high single-digits" level now, a level that might be unsustainable if future results fail to match the sudden upswing in stock prices, he said.

SIGNS OF HOPE

To get into the clear, newspapers must cling to the hope that ad budgets, now slashed thanks to the recession, return, and that they can manage their debt in the meantime.

There are good signs: some publishers say the declines in ad sales, as high as 30 percent, are easing. Those with debt have often negotiated changes to their lending agreements, fending off the threat of default.

And companies that went bankrupt such as Tribune Co (TRBCQ.PK) and Journal Register Co JRCOQ.PK might exit soon.

One vocal supporter for papers is Ariel Capital Management, which owns more than 12 percent of Gannett, according to Reuters data, and has stakes in Lee and McClatchy.

"They have staying power. That's important," said Ariel Chief Executive John Rogers. "If you can stay solvent until the economy recovers, ad revenue will come back in a big way."

Ariel was buying until the recent run-ups, Rogers said.

"Once you've found that there was life here, the stocks have lots of room to move," he said. "Now that we've had this nice run, we're strong holders."

Morningstar's Corbett doubts whether enough ad dollars will "rush back" to newspapers to sustain them like they did before, but Rogers said leaner operations at the publishers means that even a modest ad recovery would "go right to the bottom line."

Whether the share rally can be sustained depends on their ability to come up with a new business model. New cost cuts also could hurt depleted advertising and newsroom staffs, which have been slashed by the thousands in the past two years.

"Now the onus is on these companies," he said. "At some point you need to grow revenues."

(Reporting by Robert MacMillan, editing by Tiffany Wu and Andre Grenon)