by Jim Gallagher
Treasurer, St. Louis Newspaper Guild
We learned last week that the auditors for Lee Enterprises may express doubt about the company’s ability to continue as a “going concern.” In other words, they think Lee might fail, and fall into the hands of its creditors. This may seem strange in light of the fact that the company was profitable in the quarter ended in September, and that Lee has more cash coming in than it needs to cover the payments on its debt.
But a “going concern” letter is a serious matter. So I thought I would try to explain the situation as best I can for our members. It’s a complicated mess, so for those who don’t like to read long business stories, the bottom line is this:
Lee probably won’t go bankrupt in the months ahead. It’s not in its creditors’ interest to force Lee to that point, especially since the company can still make substantial payments on its debt. Even if the company filed for bankruptcy, the Post-Dispatch would continue to publish, and the chances are reasonable that the Guild contract would remain in force through that process.
But for the coming months, Lee will be under some financial pressure. For Post employees, the major danger is that Lee may react to that stress by cutting staff.
This would be counterproductive, obviously for our members, but also for Lee. It would further damage the quality of our newspaper, costing us readers and advertisers. In the long-run, such a loss of customers is the greatest threat to the viability of the Post-Dispatch.
First, a caveat: I’m our Guild local’s treasurer, and I’ve spent the last 21 years covering business as a reporter and editorial writer. But I’m not a financial analyst or accountant. The following is my take on the situation, but I MAY BE WRONG.
Lee’s problem is its high level of debt, about $1.3 billion. The bulk of that was taken on with the 2005 purchase of Pulitzer Inc. The debt comes in two main piles. The biggest pile is owed to a group of banks lead by Deutsche Bank.
The smaller pile, about $306 million, was originally Pulitzer debt and was taken on by Lee as part of the sale. This debt actually matures in April, and Lee will have to refinance it. In today’s environment, one must assume that this will be difficult.
Back in 2005, when newspaper profits were much higher, Lee agreed to certain “covenants” with its creditors. These generally required the company to keep a certain level of income relative to its debt, and a certain level of net worth — the estimated value of the company.
In November, Lee was in danger of violating covenants on the Deutsche debt, so it negotiated a deal with its creditors. Basically, the creditors made the company cancel its dividend, and Lee pledged as collateral virtually everything it owns except what it bought from Pulitzer. In exchange, the company got some breathing room on its covenants.
Now, just a month later, Lee is in danger of violating its covenants again, but in different ways.
All companies keep on their books an accounting estimate of the value of the enterprise, everything from the worth of the presses to the value of our customer relationships. It’s painfully obvious that newspapers aren’t worth what they once were. So, the auditors say Lee has to take a $180 million writedown on its books. This is a paper writedown. It’s not real money out the door. Nevertheless, it will place Lee in violation of the covenants on its Pulitzer debt. Unless those creditors grant a waiver, it will put Lee in violation on the Deutsche debt as well.
The combination of the above problems apparently has our auditors in a glum mood, and questioning Lee’s company’s ability to continue on, absent an agreement with its creditors. Ironically, such a “going concern” provision in the audit letter would put Lee’s in violation of the covenants yet again.
In a Dec. 16 report on Lee, Tom Corbett, stock analyst for the Morningstar research firm, put the situation this way: “The nefarious combination of declining profitability and a weighty debt burden has forced beleaguered newspaper publisher Lee Enterprises into a virtual minefield of tripwires. The resulting potential domino effect threatens to catapult the company into simultaneous technical violation of one or more of its debt covenants, evoking the discouraging specter of default and a possible liquidation scenario.”
As Corbett points out, under such circumstances, the banks could call itn their loans, requiring that they be paid off immediately.
In that case, Lee might have to seek protection from its creditors in bankruptcy court.
I don’t think that’s going to happen, and here’s why: Lee is still turning a profit, and making its debt payments. From what I can make out of its financial statements, it has twice as much cash coming in as it needs to cover the interest on its debt.
In bankruptcy, debtors go through a long period in which they receive no payments at all. Then, typically, the debt is reduced by the court and the creditors end up owning the company.
That’s not a happy solution for the creditors. Banks want to make money on their loans. They don’t want to publish newspapers. The logical response for Lee’s creditors is to refinance the Pulitzer debt and grant Lee more breathing room on its loans. In return, the banks might want a higher interest payment, more collateral, and perhaps more restrictions on how Lee runs its businesses.
Mary Junck, Lee’s CEO, says the company is negotiating with the creditors, and that they “have shown a willingness to work toward acceptable solutions.”
Of course, Lee might also try to reduce its debt by selling some of its newspapers. That may not be a workable option, given the low price that newspapers are drawing these days. But it’s a possibility.
Lee’s newspapers remain quite profitable as stand-alone entities. During the three months ended in September, they produced $36 million in operating cash flow. Lee no longer breaks out results for the Post-Dispatch, but I feel confident that we contributed our share to that pot of cash.
This is important. As long as the Post makes an operating gain, it will continue to publish whether Lee goes bankrupt or not. To do so, our managers will need advertising, news, circulation and marketing staff. That’s us.
Out of that $36 million in cash provided by its newspapers, Lee made paid out about $17 million in interest. Take out taxes, depreciation, amortization and other odd adjustments, and Lee was left with a net profit of $6 million.
However, that $36 million pot of cash is down from $59 million in the same quarter last year and the $6 million net profit is down from $20 million. Lee hasn’t suffered as much from the downturn as other newspaper companies, but it’s certainly suffered.
The downward trend is product of the economic recession, and the shift of readers and advertisers to the Internet. No one knows where the bottom is.
We’ve all seen how successive rounds of staff and newsprint cuts have reduced the quality of the Post-Dispatch. To its credit, Lee has not cut our staff to the extent that other chains have cut. I believe that Lee recognizes that its long-term success depends on producing a product that people want to read. That takes good employees.
The danger is that, under pressure for short-term financial relief, they will lay aside that long-term wisdom and cut the staff more deeply.
Although a bankruptcy is probably not in the cards, let’s consider what would happen if it should occur.
During a bankruptcy, the company can ask the court to void a union contract. Before doing so, it must attempt to bargain concessions with the union. If those talks fail, the company must convince a court that voiding the contract is necessary to a successful reorganization of the company.
Courts differ on their treatment of such issues. However their tendency is to cancel the contracts. The company can then impose its last offer in negotiations.
The union is then free to strike, or take other economic actions against the employer.
