Washington Post Costs Shareholders 71% Gain by Forgoing Breakup: Real M&A

Washington Post Co. (WPO) risks costing shareholders a 71 percent gain by keeping together its 134-year- old newspaper, Kaplan education business and broadcast and cable operations.

The company’s market capitalization slid to $2.5 billion from a record $9.5 billion in 2004 as newspaper advertising dwindled and Kaplan was ensnared in government investigations into student loan defaults at for-profit universities. Breaking Washington Post Co. into four companies may generate a combined value of $564 a share, a 71 percent increase to the stock’s average price in the last 20 days, according to data compiled by Bloomberg. The broadcasting and cable units alone would exceed the Washington-based company’s current value.

Under Chief Executive Officer Donald Graham, whose grandfather purchased the Washington Post newspaper in 1933, the Kaplan business became the biggest profit contributor as newspaper publishing started losing money. While Graham said he’s reluctant to sell any piece of the family-controlled company that counts Warren Buffett as its biggest outside investor, family-run McGraw-Hill Cos. said this month it will split its textbook publishing and financial ratings businesses.

“It’s clear that investors want management to explore options to unlock value,” Bradley Safalow, founder and CEO of independent research firm PAA Research in New York, said in a telephone interview. “But Don Graham has been making it clear that he will not break up his company or spin off a division.”

‘Exceptionally Reluctant’

Buffett, the chairman and CEO of Omaha, Nebraska-based Berkshire Hathaway Inc., didn’t respond to requests for comment.

“If the company were broken up, the same shareholders would own the same businesses but with the additional expense of another board and another corporate management,” Graham, who’s also chairman, said in a phone interview. “I’m not commenting on whether your analysis is right or wrong, but the market tends to ultimately price companies at their real value.”

At Washington Post Co.’s meeting with shareholders Sept. 9, Graham, 66, referred to advice from Buffett and his late mother Katharine Graham, the former chairman and CEO, that the market will recognize value over time.

“We are exceptionally reluctant to sell any business,” Graham said at the meeting. “We would only contemplate it if a business is losing money and you can’t see a way out or if labor relations are terrible. That is quoting Warren, not quoting me. Warren also says Berkshire -- and I would have to adopt this for the Post Co. -- does not play what he calls gin rummy management in which you discard a business at every turn to try to do something with the stock price.”

Photographer: Matthew Staver/Bloomberg News

Donald E. Graham, chief executive officer of The Washington Post Co. Close

Donald E. Graham, chief executive officer of The Washington Post Co.

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Photographer: Matthew Staver/Bloomberg News

Donald E. Graham, chief executive officer of The Washington Post Co.

Uncovering Watergate

Buffett, 81, has been a shareholder in Washington Post Co. since 1973 and stepped down from the board in May. While Berkshire is the company’s largest outside investor, Buffett signed the voting power of his Class B shares over to Graham to vote as he chooses. Graham controls the vote for 85 percent of the Class A shares, which elect 70 percent of the board.

Once worth $9.5 billion, Washington Post Co. had bolstered profit with cash from the flagship newspaper, which uncovered the Watergate scandal in the 1970s, and with the purchase of Kaplan centers that provide test preparation and higher education. Since the market value peaked in 2004, the government has sought increasing regulations aimed at for-profit education companies, and advertising and circulation revenue across the newspaper industry has dwindled as readers moved online. Its market capitalization has since plunged 74 percent.

Discount to Sales

While revenue rose in eight of the past nine years, net income in the same period peaked in 2004 at $333 million. The company is now trading at a 42 percent discount to its revenue, a cheaper price-to-sales ratio than 89 percent of U.S. cable, newspaper, television and education companies with market values greater than $500 million, data compiled by Bloomberg show.

Washington Post Co.’s four units would have a combined equity value of almost $4.5 billion if broken apart, according to data compiled by Bloomberg that applies rivals’ operating cash flow multiples to the respective businesses. That would equate to a combined $564 a share, 71 percent higher than the stock’s 20-day trading average prior to today of $330.04.

Washington Post Co. shares rose $8.70, or 2.8 percent, to $323.84 today.

Cable One, which delivers digital cable-TV, Internet and phone services, would be Washington Post Co.’s most valuable unit on a standalone basis at about $2 billion, including net cash. With the company’s six local TV stations worth an estimated $950 million, the two operations’ combined enterprise value would be higher than Washington Post Co.’s $2.3 billion in equity and net cash, the data show.

Unlocking Value

“We believe that certain corporate actions, such as spinoffs, could unlock the underlying asset value of the company,” Heather King McPherson, an associate portfolio manager at Baltimore-based T. Rowe Price Group Inc., said in an e-mail. T. Rowe oversaw about $520 billion and owned 1.25 percent of Washington Post Co.’s Class B shares as of June.

Cable One, which serves about 720,000 customers, could attract takeover interest from Time Warner Cable Inc. (TWC) or Charter Communications Inc., Christopher Marangi, a fund manager at Rye, New York-based Gamco Investors Inc., which oversees $36 billion, said in a phone interview.

“Cable assets of meaningful size are valuable,” Marangi said. “It could be an opportunity for existing players to add scale or for the private equity community to invest.”

Alex Dudley, a spokesman for Time Warner Cable, and Anita Lamont, a spokeswoman for Charter, declined to comment on rumors or speculation.

TV Station Buyers

The broadcast TV business, which owns network affiliates in major markets such as Miami and Houston, could lure potential buyers including private equity firms, network owners such as Walt Disney Co. (DIS)’s ABC and Comcast Corp. (CMCSA)’s NBC Universal and local-station owners like Gannett Co. or Belo Corp., Edward Atorino, an analyst at Benchmark Co. in New York, said in a phone interview.

“Buyers would be lined up around the block,” Atorino said. “These are big stations in top 30 markets, and people with big money want them.”

D’Arcy Rudnay, a spokeswoman for Comcast, Gannett’s Robin Pence and Jill Matthews of Belo declined to comment on potential mergers and acquisitions. Zenia Mucha, a spokeswoman for Disney, couldn’t immediately be reached for comment.

Graham would have the most difficulty parting with the Washington Post newspaper, Atorino said.

He won’t sell the publication “under any circumstances that we can conceive of today,” Ken Doctor, a media analyst at Outsell Inc. in Santa Cruz, California, said in a phone interview. “The family legacy, the Watergate legacy, it’s all still strong in that newspaper.”

For-Profit Investigations

The publishing operations, also including the Slate Group and community newspapers, posted an operating loss of $9.8 million last year. The unit may only have an enterprise value of about $150 million, based on multiples for competitors Gannett and New York Times Co. (NYT), data compiled by Bloomberg show.

The education division, which brought in $2.9 billion or 62 percent of revenue last year, may be valued at more than $1.1 billion, data compiled by Bloomberg show. Moody’s Investors Service this week put Washington Post Co.’s A2 credit rating, the sixth-highest level of investment grade, on review for a possible cut, citing enrollment and earnings pressure at Kaplan and an updated assessment of the company’s business diversity.

Congress and state attorneys general are investigating education companies’ recruitment practices and use of government aid. The Education Department developed rules to try to curb loan default rates at for-profit colleges that will cut off federal funding starting in 2015 to schools where students struggle the most to repay loans.

‘Very Mispriced Stock’

While shareholder Thomas Russo estimates Washington Post Co. may be valued at more than $700 a share in a breakup, he said the company would miss the opportunity to reinvest across its businesses, expand globally and buy back shares to boost the stock price even higher. Russo manages about $4 billion in Lancaster, Pennsylvania, as a partner at Gardner Russo & Gardner, which has been a Washington Post Co. investor since the late 1980s.

“A very mispriced stock is a great asset to a company that has the right mindset, like Berkshire and Washington Post,” Russo said. “They know how to add value to the remaining shares by acquiring back shares at a steep discount to value.”

This month the company approved the repurchase of as many as 750,000 Class B shares, or about 11 percent of the Class B outstanding.

McGraw-Hill Split

McGraw-Hill CEO Harold “Terry” McGraw III faced a challenge similar to Graham, overseeing a family-run company with units that would be more valuable apart, said PAA Research’s Safalow.

New York-based McGraw-Hill said Sept. 12 that it will separate its global markets, including Standard & Poor’s, from education publishing after pressure mounted from investors such as Jana Partners LLC. The shares have since climbed 11 percent, compared with a 0.3 drop for the Standard & Poor’s 500 Index.

“Old media companies like McGraw-Hill and Washington Post often are valued more highly in the private market than in the public market,” Paul Sweeney, senior media and Internet analyst at Bloomberg Industries in New York, said in a phone interview.

To contact the reporter on this story: Brett Pulley in New York at bpulley@bloomberg.net

To contact the editors responsible for this story: Daniel Hauck at dhauck1@bloomberg.net; Katherine Snyder at ksnyder@bloomberg.net; Peter Elstrom at pelstrom@bloomberg.net.

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