Just because Warren Buffett
$142 million in cash on 63 daily and weekly Media General newspaper titles yesterday doesn't mean that newspapers are back. All it means is that an old cow that's still a milker has been moved to a neighboring farm’s pasture, where it will be squeezed until it can give no more and will then be ground into pet food.
Buffett has long loved newspapers, having made about a half a billion dollars on the Washington Post Co. after his company, Berkshire Hathaway Inc, started investing in it in 1973. In 1977, he bought the Buffalo Evening News for $32.5 million, and after it vanquished the city's other daily, it became one of the country's most profitable newspapers, as measured by return on assets.
But Buffett isn't romantic about newspapers. He buys when he sees value that others don't. For instance, in a lecture he gave at Notre Dame in 1991 (pdf), Buffett explained why he bought Washington Post Co. stock.
In ‘74 you could have bought the Washington Post when the whole company was valued at $80 million … If you asked any one of thousands of investment analysts or media specialists about how much those properties were worth, they would have said, if they added them up, they would have come up with $400, $500, $600 million.
This disparity between Post Co.’s stock price and the company’s true value was no secret. Even the 10 sellers who unloaded their Post Co. shares on Buffett knew that the Post Co.’s assets — the newspaper, Newsweek, its television stations, its timberland and paper mill in Canada, a third of the International Herald Tribune, and more — were worth much more than its stock value. They just weren’t prepared to act on the information, Buffett told the Notre Dame faculty and students.
If you want to make money, "just buy something for less than it's worth," Buffett advised the gathering — articulating a simple formula that informs Buffett's purchase of Media General. But there's more to Buffett's investment philosophy than that. He has repeatedly stated his preference for lucrative properties that are "economic franchises" — that is, companies that produce needed or desired goods or services that are "not subject to price regulation" and that are thought by "customers to have no close substitute." As he put it in his Feb. 28, 1992, letter to Berkshire Hathaway stockholders:
The existence of all three conditions will be demonstrated by a company’s ability to regularly price its product or service aggressively and thereby to earn high rates of return on capital. Moreover, franchises can tolerate mis-management. Inept managers may diminish a franchise’s profitability, but they cannot inflict mortal damage.
"Mortal damage" arrives when the property stops resembling a franchise and starts resembling a business, Buffett lectured. In that 1992 letter, Buffett expressed his reluctance to purchase additional media properties — newspapers, magazines, broadcasters — because they were losing their "franchise strength." There was just too much media competition out there and a change in advertising markets, themes he sounded in a stockholder letter the previous year:
While many media businesses will remain economic marvels in comparison with American industry generally, they will prove considerably less marvelous than I, the industry, or lenders thought would be the case only a few years ago.
The reason media businesses have been so outstanding in the past was not physical growth, but rather the unusual pricing power that most participants wielded. Now, however, advertising dollars are growing slowly. In addition, retailers that do little or no media advertising (though they sometimes use the Postal Service) have gradually taken market share in certain merchandise categories. Most important of all, the number of both print and electronic advertising channels has substantially increased. As a consequence, advertising dollars are more widely dispersed and the pricing power of ad vendors has diminished. These circumstances materially reduce the intrinsic value of our major media investments and also the value of our operating unit, Buffalo News — though all remain fine businesses.
Did I mention that Buffett was souring on making additional media acquisitions before the Web existed?
Media General newspaper readers should not automatically expect Buffett to improve the newspapers he just bought. Buffett likes quality newspapers as much as the next billionaire, but he's not goofy about it. As he outlined in a Feb. 25, 1985, stockholder letter, quality can prove decisive in making a newspaper dominant in its market, but once "dominant, the newspaper itself, not the marketplace, determines just how good or how bad the paper will be." Buffett continued:
Good or bad, it will prosper. That is not true of most businesses: inferior quality generally produces inferior economics. But even a poor newspaper is a bargain to most citizens simply because of its “bulletin board” value. Other things being equal, a poor product will not achieve quite the level of readership achieved by a first-class product. A poor product, however, will still remain essential to most citizens, and what commands their attention will command the attention of advertisers.
As late as 2009, Buffett was badmouthing newspapers, telling attendees at Berkshire Hathaway's annual meeting: "For most newspapers in the United States, we would not buy them at any price … They have the possibility of nearly unending losses ... I do not see anything on the horizon that sees that erosion coming to an end … Twenty, thirty years ago, they were a product that had pricing power that was essential … They have lost that essential nature." In a recent book, he waxed sarcastically to Jeff Matthews, author of Secrets in Plain Sight: Business and Investing Secrets of Warren Buffett: “Imagine that someone came along saying, ‘I have a great idea: Let’s chop trees down, buy expensive printing presses, and buy a fleet of delivery trucks, all to get pieces of paper to people to read about what happened yesterday,’ ” Buffett said.
So what explains Buffett's Media General deal and his purchase last November of the Omaha World-Herald (and a few scattered regional papers) in a $200 million deal? The Omaha deal looks like equal parts hometown boosterism and faith that the properties retain some franchise cachet. "The World-Herald is in the top 10 newspapers in the country in terms of the percentage of subscribing households in its market, and its digital news site dominates the Omaha market," University of Nebraska at Lincoln finance professor Donna Dudney wrote at the time of the deal. Buffett chronicler Matthews told BusinessWeek that Buffett liked the paper because it's profitable and well-run.
The Media General deal is slightly harder to decode. Aside from Richmond, Va., and Winston-Salem, N.C., most of the towns where Buffett is now the press lord are backwaters — places like Hickory, N.C., Bristol, Va., and Eufaula, Ala. These small dailies and weeklies still retain franchise status because they cover local issues nobody else does, and they make money. It’s worth noting that Buffett did not purchase Media General’s Tampa Tribune, an unprofitable paper in competition with the Tampa Bay Times (née St. Petersburg Times) with no franchise value on the horizon.
Ken Doctor calls Buffett's Media General deal "more a feat of financial engineering than a newspaper deal" because it includes a loan of $400 million and a $45 million line of credit at 10.5 percent interest in exchange for warrants that would give Berkshire Hathaway almost 20 percent of Media General. As Financial Times reporter Andrew Edgecliffe-Johnson points out, those warrants are worth $19.5 million. Once it dumps the Tampa Tribune, Media General will essentially be a profitable TV-station owner, a business that Buffett knows and likes, and, writes Doctor, the deal comes with valuable newspaper real estate that can be flipped.
Newspapers aren't Buffett's idea of the perfect business — that would be tobacco. “I’ll tell you why I like the cigarette business," Buffett is quoted as saying in Bryan Burrough and John Helyar's 1990 book Barbarians at the Gate: The Fall of RJR Nabisco. “It costs a penny to make. Sell it for a dollar. It’s addictive. And there’s fantastic brand loyalty.”
Don't assign too much sentimentality to his recent deals, that March 2012 video of him singing "I'm Only a Paperboy" notwithstanding. He comes to the table with his eyes wide open about the newspaper business. In his Feb. 28, 2007, (pdf) stockholder letter, he put it this way:
Aspiring press lords should be careful, however: There’s no rule that says a newspaper’s revenues can’t fall below its expenses and that losses can’t mushroom. Fixed costs are high in the newspaper business, and that’s bad news when unit volume heads south. As the importance of newspapers diminishes, moreover, the “psychic” value of possessing one will wane.…
Buffett promised in that letter to stick with his Buffalo News unless “we face an irreversible cash drain … just as we’ve said that we would.” Buffett’s recent newspaper acquisitions don’t indicate the industry has returned to health. But if he starts selling, you’ll know that it’s dead.
Every time I read Buffett's cigarette quotation I want to ignite my first cigarette. Do you mind if I smoke here? Let me know at Shafer.Reuters@gmail.com. Also, see my Twitter feed, an economic franchise if ever there was one. Sign up for email notifications of new Shafer columns (and other occasional announcements). Subscribe to this RSS feed for new Shafer columns and subscribe to this hand-built RSS feed for corrections to my column.
PHOTO: Warren Buffett sings with University of Nebraska cheerleaders during the Berkshire Hathaway Annual shareholders meeting in Omaha, May 5, 2012. REUTERS/Lane Hickenbottom