From the Sacramento Bee
Wednesday, Jul. 22, 2009

The McClatchy Co. has cut its way back to profitability in a big way but still faces problems with debt and an industrywide downturn in newspaper advertising.

After losing money in the first quarter, The Bee's parent said Tuesday that it earned $42.2 million in the second quarter, about double the $19.7 million reported a year earlier. Per-share earnings rose to 50 cents from 24 cents.

Gary Pruitt, McClatchy's chairman and chief executive, said he was "extremely pleased" with the results, which showed that McClatchy is "taking the right steps."

The higher profits came in spite of a 25.4 percent drop in revenue, to $365.3 million, from a year earlier. Ad sales, the biggest revenue producer for any newspaper company, fell 30.2 percent despite a slight improvement in June.

Fueling the profit: a cost-cutting campaign that reduced cash expenses 29.3 percent, excluding severance pay.

This spring the Sacramento-based company imposed a third round of staff reductions and other cuts. McClatchy since last summer has cut staff by 35 percent, reduced pay at The Bee and most other papers, eliminated shareholder dividends and made other reductions. The cutbacks are comparable to what most other newspaper chains have undertaken.

McClatchy's second-quarter results prompted some on Wall Street to back away from predictions that McClatchy would default on its bank covenants by year's end.

"This is just a phenomenal performance. They've given themselves a much better shot (at avoiding default) than anyone dreamed," said analyst Edward Atorino of The Benchmark Co. in New York. "If they can get a break in revenue the next six to 12 months, they can pull through."

Under the covenants, it isn't enough for McClatchy to keep up with its bank payments. It also must maintain certain cash flow minimums, and analysts have warned that McClatchy is at risk of falling below the threshold.

McClatchy is about $2 billion in debt because of its 2006 takeover of Knight Ridder Inc., a deal that made it the third-largest U.S. newspaper chain.

The second-quarter numbers created some breathing room on the debt.

They also stunned Wall Street.

Analysts surveyed by Thomson Reuters had predicted a per-share loss of 8 cents for the quarter. Reacting to the results, investors drove McClatchy stock to 74 cents a share, up 20 cents, on the New York Stock Exchange.

Still, Jake Newman of CreditSights, a New York credit-analysis firm, said McClatchy isn't out of the woods. Like all publishers, the company is getting hurt by the recession and ongoing loss of business to the Internet and other media.

"They'll continue to face (debt) covenant issues in 2010 as long as the newspaper advertising market doesn't revive," he said. "But they've got more options now that they've posted some good numbers."

Pruitt repeated his insistence that default isn't in the cards.

"There has been a steady drumbeat in recent media and analyst reports about the prospects of McClatchy violating bank covenants this year," he said on a conference call with analysts. "We think it is important to note that even if our advertising performance does not improve from its current run rate for the rest of the year, we would not breach our bank covenants. In the meantime, we will continue to reduce debt."

In April, the company repaid $31 million in bonds that matured.

Pruitt pledged to "remain vigilant" on costs and said "the advertising environment continues to be weak."

During the quarter, classified ads were off 40 percent. Even online sales, formerly a bright spot, fell 2.9 percent, though that was due mainly to a huge decline in help-wanted ads.

Yet there were also signs, albeit slight, of hope for the ad market. In June, McClatchy's total sales fell 28.3 percent vs. a year earlier. In April, the decline was 31.1 percent. Pruitt called that "an improving trend."

Atorino said it's possible "the slope of the line (is) starting to stabilize," but more strength is needed.

"Obviously you can't have 25 percent revenue declines forever," the analyst said.

Still, the quarter marked the first bit of good news the company has had lately. McClatchy lost $37.5 million in the first quarter, its first-ever loss on a day-in, day-out basis. Previous losses were caused by write-offs or other extraordinary adjustments.

In June, a bid to repurchase several hundred million dollars worth of bonds ended with debt shrinking by $75 million. McClatchy said it was pleased, but Wall Street considered the result a disappointment.

Then the company had to postpone again the completion of a land sale in Miami that would yield $118 million after taxes. Pruitt said he's "hopeful" the deal can go through. The buyer has been unable to get financing.