DeLeveraging into Summer

At the start of this long Memorial Day weekend, it is clear that with spring we saw some "green shoots" and sensed that we had most likely touched bottom in this deep recession in February or March. Confidence has slowly returned with regards to our financial system and the strongest banks are in the midst of negotiating with Treasury Secretary Geithner on when they can repay the TARP funds. Our credit system has slowly defrosted as well. As we move toward summer, we will start to hear more and more about possible debt swaps, done at significant discounts, from overleveraged private equity deals that have survived but are still searching for a way forward. While my focus is on the media sector, this process has started across all sectors of the economy.

Back in October, I wrote in A Family's & an Industry's Conundrum about the depressed newspaper industry, with a focus on the New York Times Company (NYT) and the McClatchy Company (MNI), both family controlled, longtime publishers. Since that time both of them have seen their fortunes worsen as the advertising free fall from November to February left both of them in significantly worse financial shape than they were in the early fall.

McClatchy announced earlier in the week that they are pursuing a debt swap at a significant discount. (WSJ May 22, 2009) They have asked bondholders of $1.15B of their debt to take equity stakes that equate to a range of $.18-$.33 on the dollar, varying by issues they hold and how quickly they agree to the terms. If they are successful, McClatchy could lower its debt load by as much as $500M and, most importantly, gain three years to repay the bonds that currently come due in 2011. Together with the significant cutbacks in fixed costs they have already made, this "reset" could give them the breathing room they need to reinvent their news franchises across the country.

While radio appeared to be surviving as a medium better than the newspaper sector, the deepening recession showed us that this was not the case. Last year in a much-publicized deal, Bain Capital LLC and Thomas H. Lee Partners LP finally took Clear Channel, a public company controlled by the Mays family, private. The deal was protracted, and in the end the company went private at a slightly reduced price per share with a debt load of $22B, compared to its $5.9B debt load when it operated as a public company. Clear Channels radio business experienced a 22% decline in advertising revenue in the first quarter of '09. (WSJ May 11, 2009) As part of their effort to reduce costs, they have had significant layoffs and suspended their 401K matching contribution. This has been a common response to the current recession by overleveraged companies across all sectors. Nevin Adams, editor-in-chief of PlanSponsor, has chronicled many of these 401K matching contribution suspensions in his daily, NewsDash. It has been widely reported in the business press that the two private equity sponsors are now trying to negotiate a debt swap to avoid violating loan covenants later in the year. The New York Post reported that the initial proposal has been rejected by two of the senior lenders. (NY Post May 22, 2009)

At the end of the day, I sense that both of these debt swaps will get done with some modifications. As the economic recovery takes place, both businesses will have bought some time to move from an analog to a digital strategy that will allow them to survive, although as much less dominant national players then they were prior to this recession. Advertising dollars are starting to be spent again, and we should not lose sight of the fact that Google emerged dramatically from the last recession. There is tremendous leverage in the advertising/marketing spend, but yesterday's dominant players do not always emerge as the tomorrow's leaders.

I spent most of last week in London, where Gordon Brown's government remains under pressure from the Tories to call for a new election. The expense scandal that engulfed the House of Commons while I was there certainly has not strengthened Labour's hand to resist. Just as we saw the Democrats and President Obama take over from eight years of Republican control of the White House, I sense that the Tories time is near after more then 10 years of Labour's dominance during the Blair years and the current Brown term.

I have noticed during the past two recessions, where I have had a unique window into both the U.S. and UK advertising markets, that British companies do not move to cut their marketing spend as dramatically as their U.S. counterparts. I trust that this serves them well during the recovery, where the strongest companies can gain very profitable market share. There is a lesson for U.S. marketers in this strategy.

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